Chapter 6 Review Questions Essay

Chapter 6 Review Questions

1) Which of the following must a firm in a market economy do today to succeed? A) Produce the goods and services that consumers want at a lower cost than consumers themselves can produce. B) Organize the factors of production into a functioning, efficient unit. C) Have access to sufficient funds.

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D) Market firms today must do all of these things.

2) Organizing a successful firm in a market economy has become ________ over the last century. A) legally impossible
B) politically impossible
C) less difficult
D) more difficult

3) A sole proprietorship is
A) the easiest type of business to set up.
B) the most difficult type of business to set up.
C) the most expensive type of business to set up.
D) the least profitable type of business to set up.

4) Which type of business is the most difficult to set up?
A) sole proprietorship
B) partnership
C) corporation
D) There is no difference in the difficulty of establishment.

5) Which type of business has the least government rules and regulations affecting it? A) sole proprietorship
B) partnership
C) corporation
D) They all have the same set of rules and regulations affecting them.

6) As a form of business, a partnership
A) has limited liability.
B) has only one owner.
C) cannot issue stock.
D) has the most government rules and regulations affecting it.

7) How do a sole proprietorship and a corporation differ?
A) Proprietorships have unlimited liability while corporations have limited liability. B) Corporations can issue stocks and bonds, while proprietorships cannot. C) Corporations face more taxes than do proprietorships.

D) All of these are differences between the two types of businesses.

8) Assume you set up a sole proprietorship and your lawyer tells you that as the owner, you could stand to lose your personal wealth if the business goes bankrupt. This means a sole proprietorship A) faces limited liability.

B) faces unlimited liability.
C) has little chance of succeeding.
D) is not a good type of business to set up.

9) A corporation is owned by its
A) board of directors.
B) stockholders.
C) employees.

10) What does limited liability mean?
A) The owners of the business are personally responsible for paying expenses incurred by the business. B) Only employees can have a claim on the assets of the business. C) The personal assets of the owners cannot be claimed if the business is bankrupt. D) Anybody with a liability against a firm can claim only what their liability refers to.

11) Which of the following is not an advantage of starting a new business as a corporation? A) separation of ownership and business liability
B) enhanced ability to raise funds
C) ability to share risks
D) possibility of double taxation

12) Which type of businesses earns the majority of profits in the United States? A) corporations
B) partnerships
C) sole proprietorships
D) none of these

13) What is an inside director?
A) a movie director who also appears in the movie
B) a member of a corporate board of directors that is also a manager of the business C) the CEO that is selected by the corporation’s board of directors D) a board of director chair who has been in the job for at least three years

14) Corporate governance involves the way in which
A) the government nationalizes corporations.
B) the government licenses corporations.
C) a corporation is subject to government regulations.
D) a corporation is structured.

15) Who operates and controls a corporation in its day-to-day activities? A) the board of directors
B) stockholders
C) employees
D) management

16) What do economists call the situation where a hired manager does not have the same interests as the owners of the business? A) conquest and control
B) a financial problem
C) a principal-agent problem
D) a financial intermediary problem

17) By tying the salaries of top corporate managers to the price of the
corporation’s stock, corporations hope to avoid A) corporate governance.
B) conflict between the CFO and the CEO.
C) the principal-agent problem.
D) paying high salaries to their managers.

18) How can a proprietorship or partnership raise funds for expansion? A) borrow from someone or an institution willing to lend the funds B) reinvest profit back into the business
C) take on a partner or more partners
D) Any of these would generate funds for expansion.

19) Which of the following takes place in the direct finance market? A) Firms borrow funds from banks.
B) Deposits from savers are accumulated and loans made to borrowers. C) Ownership in corporations is sold in the form of preferred stock. D) Banks offer savings accounts to customers.

20) If Southwest Airlines borrows $20 million from a bank to finance the renovation of their corporate offices, this is an example of A) a bond market transaction.
B) indirect finance.
C) a stock market transaction.
D) direct finance.

21) A bond is a financial security that represents
A) ownership in a corporation.
B) the portion of profits paid to shareholders.
C) the interest rate paid on a share of stock.
D) a promise to repay a fixed amount of funds.

22) What is different about buying stocks and buying bonds?
A) A stock can possibly pay dividends forever, but bonds have a fixed number of payments. B) Differences of opinion about a stock’s future may vary considerably but there is less difference about a bond’s future. C) The future growth of a stock is more uncertain than the payments of a bond. D)
All these are differences between stocks and bonds.

23) Which of the following is a characteristic of stock?
A) Stock represents a promise to repay a fixed amount of funds. B) The face value or principal plus interest is repaid at a specified period of time. C) The length of coupon payments is fixed by the stated maturity period. D) Stock represents ownership in a firm

24) Payments by a corporation to its shareholders are known as A) stocks.
B) bonds.
C) coupons.
D) dividends.

25) If a corporate bond with face value of $1,000 has an interest rate of eight percent paid once a year for a term of 30 years, what is the size of the coupon payment? A) $1,000
B) $300
C) $80
D) $8

26) When an investor buys a corporate bond,
A) the investor becomes part owner of the corporation.
B) the principal of the bond is a loan to the corporation.
C) the interest made on the bond represents the bondholder’s limited liability in the company. D) the face value of the bond is equal to what the investor paid for the bond.

27) What is a primary market?
A) a market where primary inputs like steel are sold
B) a market where you can sell any bonds you own as a private investor C) a market where a newly issued claims are sold to initial buyers by the borrowing firm D) a market where you can sell any stocks you own as a private investor

28) What happens in the secondary market?
A) Secondary inputs like electricity are sold.
B) A corporate financial manager will raise funds for expansion of the firm. C) Newly issued claims are sold by the borrowing firm to the initial buyer. D) Already issued claims are sold from one investor to another.

29) Which of the following is part of the secondary market?
A) New York Stock Exchange
B) the over-the-counter market
D) all of these

30) Dividing the dividend payment by the stock’s closing market price determines the A) coupon payment.
B) dividend yield.
C) price-earnings ratio.
D) selling price of the stock.

31) In August 2011, Standard & Poor’s (S;P) changed its rating on U.S. Treasury bonds from ________ based on the state of the federal government’s budget deficit. A) “A” to “D”
B) “A” to “AAA”
C) “A+” to “B+”
D) “AAA” to “AA+”

32) What are liabilities?
A) anything of value owned by a person or a business
B) anything a person or a business owes to entities outside the business C) the total cost of labor for a firm
D) only those unpaid expenses for which a business or person is making interest payments

33) An explicit cost is
A) a nonmonetary opportunity cost.
B) a cost specifically related to government rules and regulations. C) a cost that involves spending money.
D) a cost unique to corporations.

34) An asset is
A) anything of value owned by a person or a firm.
B) a payment by a corporation to its shareholders.
C) a nonmonetary opportunity cost.
D) anything owed by a person or a firm.

35) What is accounting profit?
A) gross revenue minus explicit costs
B) gross revenue minus implicit costs
C) gross revenue minus explicit and implicit costs
D) the same as economic profit

36) Tanesha sells homemade candles over the Internet. Her annual revenue is $64,000 per year, the explicit costs of her business are $17,000, and the opportunity costs of her business are $22,000. What is her accounting profit? A) $17,000

B) $22,000
C) $47,000
D) $64,000

37) Why do corporations want to keep the price of their stock high? A) A higher stock price increases the funds the firm can raise when it sells a given amount of stock. B) Corporations can pay their managers lower salaries and avoid principal-agent problems when stock prices are higher. C) Higher stock prices are correlated with lower expected profitability. D) All of the above provide incentive for corporations to keep the price of their stock high.

38) In 2002, the Enron corporation was accused of falsifying information regarding liabilities on Enron’s balance sheets, thereby A) increasing Enron’s assets on the balance sheet.
B) reducing Enron’s profit on the balance sheet.
C) increasing Enron’s net worth on the balance sheet.
D) reducing Enron’s net income on the income statement

39) In addition to requiring that CEO’s personally certify the accuracy of financial statements, the Sarbanes-Oxley Act of 2002 also requires that A) CEO’s conduct audits of their corporations themselves.

B) firms raise funds for expansion through the sale of bonds only, not stocks. C) auditors disclose any potential conflicts of interest.
D) corporations issue financial statements monthly rather than quarterly.

40) Mortgages issued to borrowers whose credit histories include failures to make payments on bills are known as ________ mortgages. A) catastrophicC) subprime
B) variable rateD) Alt-A


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