CAT Corporate Finance & Investment 3

Question 1

A company is evaluating two mutually exclusive projects with the same initial investment but different lifespans. Which method is most appropriate to compare them?

Accepted Answer

Use the Equivalent Annual Annuity (EAA) method

Answer

The Equivalent Annual Annuity (EAA) converts NPVs into comparable annual cash flows, making projects with different lives directly comparable.

Question 2

What does a high 'interest coverage ratio' indicate about a company?

Accepted Answer

The company can comfortably meet its interest obligations from operating profit

Answer

A high interest coverage ratio (EBIT / Interest) means the company generates sufficient operating profit to cover interest payments multiple times.

Question 3

In the context of capital investment appraisal, what is 'sensitivity analysis' used for?

Accepted Answer

To assess how changes in key variables affect the project's NPV or IRR

Answer

Sensitivity analysis tests how sensitive the NPV is to changes in individual variables such as sales volume, price, or cost, one at a time.

Question 4

Which of the following represents systematic (market) risk?

Accepted Answer

An economic recession reducing demand across all industries

Answer

Systematic risk affects the entire market and cannot be eliminated through diversification; a recession is a classic example.

Question 5

A rights issue is offered at a 20% discount to the current market price of $10. What is the theoretical ex-rights price if the ratio is 1 new share for every 4 existing shares?

Accepted Answer

$9.60

Answer

Rights price = $10 × 0.80 = $8. TERP = [(4 × $10) + (1 × $8)] / 5 = $48 / 5 = $9.60.

(CAT) Certified Accounting Technician Practice Test

(CAT) Certified Accounting Technician Practice Test

CAT Corporate Finance & Investment 3