You’re on a roll
Create a free account to save your CTP progress, track your accuracy by topic, and pick up right where you left off.
Free Questions › CTP › Capital Structure and Long-Term Financing
Free CTP Capital Structure and Long-Term Financing Practice Questions & Answers
150 exam-style Capital Structure and Long-Term Financing questions. Pick your answer, hit Check answer, and see the worked solution — free to start, no signup.
100% free · No login to startQuestion 121
A firm increases its use of financial leverage. Holding operating results constant, what is the most likely effect on the volatility of earnings per share (EPS) and the cost of equity?
Select an option first.
Correct answer: C — Both EPS volatility and the cost of equity increase
Explanation: Higher fixed interest obligations magnify the impact of changes in operating income on net income, increasing the degree of financial leverage and thus EPS volatility. As equity holders bear more risk, they demand a higher return, so the cost of equity rises. This is consistent with MM Proposition II, where the cost of equity increases with the debt-to-equity ratio.
Question 122
According to the pecking order theory of financing, a profitable firm needing external funds will generally prefer to raise capital in which order?
Select an option first.
Correct answer: B — Internal funds first, then debt, then new equity as a last resort
Explanation: Pecking order theory, based on asymmetric information, holds that managers prefer internally generated funds because they avoid issuance costs and signaling problems. When external funds are needed, safer debt is preferred over equity because issuing equity may signal that management believes shares are overvalued. New equity is therefore a last resort.
Question 123
A borrower's credit agreement caps its total-debt-to-EBITDA ratio at 4.0x. The firm has $360 million of debt and EBITDA of $100 million. If EBITDA falls to $85 million with debt unchanged, what happens?
Select an option first.
Correct answer: B — The firm breaches the covenant because leverage rises to about 4.2x
Explanation: At $85 million EBITDA, leverage = $360 million / $85 million = 4.24x, which exceeds the 4.0x cap and constitutes a covenant breach. Covenants tied to EBITDA can be tripped by falling earnings even when debt is unchanged. A breach may trigger default, higher pricing, or a required waiver from lenders.
Question 124
An accordion feature in a syndicated credit agreement allows the borrower to:
Select an option first.
Correct answer: B — Increase the size of the facility later, subject to lender consent and conditions, without renegotiating the whole agreement
Explanation: An accordion (or incremental facility) provision lets a borrower request an increase to the committed amount after closing, up to a pre-agreed cap, provided conditions are met and lenders (existing or new) agree to fund it. It offers flexibility to expand borrowing capacity without documenting an entirely new facility. It does not obligate lenders to fund automatically.
Question 125
For a callable bond trading at a premium, which relationship generally holds?
Select an option first.
Correct answer: A — Yield to call is typically lower than yield to maturity
Explanation: When a bond trades at a premium, it is often because market rates have fallen, making an early call likely. Because the call shortens the time to receive cash and the call price is usually near par (below the premium market price), the yield to call is generally lower than the yield to maturity. Prudent investors evaluate the yield to worst, the lower of the two.
Get the full CTP question bank — free
Drop your email and we'll send you fresh CTP practice questions, fully worked solutions and exam-deadline reminders. No spam — unsubscribe in one click.
Want to save your score and take a full mock exam? Create a free account →
Question 126
A make-whole call provision differs from a standard fixed-price call because it:
Select an option first.
Correct answer: B — Requires the issuer to pay a redemption price based on the present value of remaining cash flows discounted at a small spread over a benchmark rate
Explanation: A make-whole call sets the redemption price at the greater of par or the present value of remaining coupons and principal, discounted at a reference Treasury yield plus a modest spread. This structure compensates investors for lost future cash flows, making early redemption expensive for the issuer. It is common in investment-grade corporate bonds and is rarely exercised opportunistically.
Question 127
In an IPO, a greenshoe (over-allotment) option allows the underwriters to:
Select an option first.
Correct answer: B — Sell additional shares (typically up to 15% more) if demand is strong, helping stabilize the aftermarket price
Explanation: A greenshoe option lets underwriters sell more shares than originally planned, usually up to 15% of the deal, when demand is high. If the price falls after listing, they can buy shares in the market to cover a short position, supporting the price; if it rises, they exercise the option at the offer price. This mechanism helps stabilize the stock immediately after the IPO.
Question 128
IPO underpricing, where the offer price is set below the price at which the stock first trades, is often explained by:
Select an option first.
Correct answer: B — Information asymmetry and the underwriters' incentive to ensure the deal sells and to reward investors for bearing uncertainty
Explanation: Underpricing leaves 'money on the table' for the issuer but is commonly attributed to information asymmetry between issuers, underwriters, and investors, and to the need to compensate investors for the risk of an unproven security. It also helps guarantee full subscription and rewards institutions that provide honest demand indications during bookbuilding. Persistent first-day pops are a well-documented empirical pattern.
Question 129
An inverted yield curve, where short-term yields exceed long-term yields, is often interpreted by markets as:
Select an option first.
Correct answer: B — A potential signal of expected economic slowdown or future rate cuts
Explanation: An inverted curve arises when short-term rates are higher than long-term rates, frequently reflecting expectations that the central bank will lower rates amid slowing growth. Historically, inversions have often preceded recessions, making the shape of the curve a watched indicator. For borrowers, an inversion can affect the relative attractiveness of short- versus long-term funding.
Question 130
A treasurer expects to issue long-term bonds in six months and is concerned that benchmark rates may rise before issuance. A common strategy to manage this pre-issuance interest-rate risk is to:
Select an option first.
Correct answer: B — Enter a forward-starting interest-rate hedge, such as a Treasury lock or forward-starting swap, to lock in today's rate level
Explanation: To hedge anticipated issuance against rising rates, a treasurer can use a Treasury lock or a forward-starting swap that fixes the benchmark component of the future coupon at current levels. If rates rise, gains on the hedge offset the higher borrowing cost; if rates fall, the hedge loss offsets the lower cost. This locks in the effective rate and reduces uncertainty about future funding costs.
Question 131
Under the Modigliani-Miller dividend irrelevance proposition (in perfect markets), a firm's value is unaffected by its dividend policy because:
Select an option first.
Correct answer: B — Investors can create their own desired cash flows by buying or selling shares (homemade dividends)
Explanation: In frictionless markets, MM argue that dividend policy does not affect firm value because investors indifferent to the timing of cash can replicate any payout pattern themselves by selling shares (homemade dividends) or reinvesting. Value depends on the firm's investment and earning power, not on how returns are split between dividends and capital gains. In practice, taxes, signaling, and transaction costs make dividend policy matter.
Question 132
Under the net present value (NPV) rule, a firm should accept an independent project if its NPV is:
Select an option first.
Correct answer: B — Greater than zero
Explanation: A positive NPV means the present value of a project's expected cash inflows exceeds the initial investment, adding value to the firm. The NPV rule therefore says accept projects with NPV greater than zero and reject those with negative NPV. NPV is generally regarded as the most theoretically sound capital budgeting criterion.
Question 133
The internal rate of return (IRR) of a project is:
Select an option first.
Correct answer: A — The discount rate that makes the project's NPV equal to zero
Explanation: IRR is the discount rate at which the present value of a project's cash inflows equals its initial outflow, i.e., the rate that sets NPV to zero. A project is generally acceptable when its IRR exceeds the required rate of return or hurdle rate. IRR is intuitive but can be unreliable for non-conventional cash flows or mutually exclusive projects.
Question 134
In capital budgeting, the hurdle rate used to discount a project's cash flows should reflect:
Select an option first.
Correct answer: B — The risk-adjusted required return, often the firm's cost of capital for projects of similar risk
Explanation: The hurdle or discount rate should represent the opportunity cost of capital for a project of comparable risk, commonly the firm's WACC for average-risk projects. Riskier projects warrant a higher discount rate and safer ones a lower rate. Using an inappropriate rate distorts NPV and can lead to accepting value-destroying projects or rejecting good ones.
Question 135
A key drawback of the payback period method is that it:
Select an option first.
Correct answer: B — Ignores cash flows that occur after the payback point and, in its simple form, the time value of money
Explanation: The simple payback period measures only how quickly the initial investment is recovered and disregards all cash flows beyond that point. It also ignores the time value of money unless the discounted-payback variant is used. As a result, it can favor short-term projects over more valuable long-term ones and should not be the sole decision criterion.
Question 136
The primary objectives of a corporate short-term investment policy are usually prioritized as:
Select an option first.
Correct answer: B — Safety of principal, then liquidity, then yield
Explanation: Corporate treasury investment policies typically rank safety of principal first, liquidity second, and yield third. The goal is to preserve capital and ensure funds are available when needed, with return earned only after those constraints are met. This conservative ordering reflects that the cash is often needed for operations rather than for speculative gain.
Question 137
A laddered investment portfolio is one in which:
Select an option first.
Correct answer: B — Maturities are staggered at regular intervals so that a portion of the portfolio matures periodically
Explanation: A ladder spreads investments across a range of staggered maturities so that securities come due at regular intervals. As each rung matures, the proceeds can be reinvested at then-current rates, smoothing reinvestment risk and providing periodic liquidity. Laddering balances yield and access to cash without requiring precise interest-rate forecasts.
Question 138
Which of the following is a typical money market instrument suitable for a corporate short-term portfolio?
Select an option first.
Correct answer: B — Commercial paper
Explanation: Commercial paper is short-term, unsecured corporate debt, usually maturing in 270 days or less, and is a common short-term investment for corporate treasuries. Other money market instruments include Treasury bills, certificates of deposit, and repurchase agreements. Long-dated bonds, equities, and illiquid private investments are unsuitable for a liquidity-focused short-term portfolio.
Question 139
A written investment policy statement for a corporate portfolio primarily serves to:
Select an option first.
Correct answer: B — Define permissible instruments, credit-quality limits, maturity limits, and diversification requirements
Explanation: An investment policy statement establishes the rules governing the portfolio, including eligible instrument types, minimum credit ratings, maturity and concentration limits, and reporting requirements. It codifies the organization's risk tolerance and objectives so that decisions are consistent and controlled. It does not guarantee returns or remove risk, but it constrains and disciplines investment activity.
Question 140
A horizontal merger occurs when a company combines with:
Select an option first.
Correct answer: B — A competitor in the same industry and stage of production
Explanation: A horizontal merger joins two firms operating in the same industry and at the same stage of the value chain, often direct competitors. The typical rationale is market share, economies of scale, and cost synergies. Combining with a supplier or customer would be a vertical merger, while an unrelated combination is a conglomerate merger.
Question 141
In a corporate spin-off, the parent company:
Select an option first.
Correct answer: B — Distributes shares of a subsidiary to its existing shareholders, creating a separate independent company
Explanation: A spin-off distributes shares of a business unit to the parent's existing shareholders, so the unit becomes an independent, publicly traded company without a cash sale. Shareholders end up owning both the parent and the new entity. This differs from a divestiture sale for cash or an equity carve-out, which sells a partial stake to the public.
Question 142
The purpose of due diligence in an acquisition is to:
Select an option first.
Correct answer: B — Investigate the target's financial, legal, operational, and other conditions before closing
Explanation: Due diligence is the detailed investigation an acquirer conducts to verify the target's financial statements, legal exposures, contracts, tax positions, and operational risks before committing to the deal. It informs valuation, deal structure, and representations and warranties. It reduces the risk of unpleasant surprises but does not guarantee a successful outcome.
Question 143
A tender offer is a mechanism by which an acquirer:
Select an option first.
Correct answer: A — Publicly offers to buy shares directly from a target's shareholders at a specified price
Explanation: A tender offer is a public proposal made directly to a target's shareholders to purchase their shares, usually at a premium to the market price, within a set period. It can be used in friendly or hostile acquisitions and bypasses direct negotiation with management in the hostile case. Shareholders individually decide whether to tender their shares.
Question 144
A forward contract is best described as:
Select an option first.
Correct answer: B — A customized, over-the-counter agreement to buy or sell an asset at a set price on a future date
Explanation: A forward is a private, customizable agreement between two parties to exchange an asset at a predetermined price on a specified future date. Unlike futures, forwards are traded over the counter, are not marked to market daily, and carry counterparty credit risk. Their flexibility makes them useful for tailored hedging of specific exposures.
Question 145
In a plain-vanilla interest-rate swap, the two counterparties typically exchange:
Select an option first.
Correct answer: B — Fixed interest payments for floating interest payments on a notional amount
Explanation: In a standard interest-rate swap, one party pays a fixed rate and receives a floating rate, while the other does the reverse, with payments calculated on an agreed notional principal that is usually not exchanged. It lets a borrower convert floating-rate exposure to fixed, or vice versa, without refinancing the underlying debt. Only the net interest difference changes hands on each settlement date.
Question 146
The buyer of a call option has the:
Select an option first.
Correct answer: B — Right, but not the obligation, to buy the underlying asset at the strike price
Explanation: A call option gives its holder the right, but not the obligation, to purchase the underlying asset at the predetermined strike price before or at expiration. The buyer profits when the asset's price rises above the strike plus the premium paid. The most the buyer can lose is the premium, while the upside is theoretically unlimited.
Question 147
A project requires an initial outlay of $1,000 and returns $500 at the end of each of the next 3 years. At a 10% discount rate, what is its approximate NPV?
Select an option first.
Correct answer: B — $243
Explanation: The present value of a 3-year, $500 annuity at 10% = $500 x 2.48685 = $1,243.43. NPV = $1,243.43 - $1,000 = $243.43, approximately $243. Because NPV is positive, the project earns more than the 10% required return and should be accepted.
Question 148
A project costs $1,000 and produces cash flows of $300, $400, $500, and $600 in years 1 through 4. What is its payback period?
Select an option first.
Correct answer: A — 2.6 years
Explanation: Cumulative cash flow reaches $300 after year 1 and $700 after year 2, leaving $300 to recover. Year 3 provides $500, so the remaining amount is recovered in $300/$500 = 0.6 of the year. Payback = 2 + 0.6 = 2.6 years.
Question 149
A project requires $1,000 today and returns a single cash flow of $1,210 in exactly two years. What is its internal rate of return?
Select an option first.
Correct answer: B — 10.0%
Explanation: Set NPV to zero: $1,000 = $1,210 / (1 + IRR)^2. Solving, (1 + IRR)^2 = 1.21, so 1 + IRR = 1.10 and IRR = 10.0%. The IRR is the compound annual return that equates the outflow with the discounted inflow.
Question 150
What is the present value of $10,000 to be received in 5 years, discounted at 8% per year?
Select an option first.
Correct answer: A — $6,806
Explanation: PV = FV / (1 + r)^n = $10,000 / (1.08)^5 = $10,000 / 1.46933 = $6,805.83, approximately $6,806. Discounting reflects that a dollar received in the future is worth less than a dollar today. The higher the rate or the longer the horizon, the smaller the present value.
More free CTP topics
Ten questions in
- The ones you miss are saved as a drill you can repeat
- Your place is kept, on this device and any other
- A streak, if that is the thing that gets you back tomorrow
Every question on this page stays free and open either way.