FIN 3100 Chapter 1 Quiz

Organizing as a corporation makes it easier for the firm to raise capital. This is because corporations’ stockholders are not subject to personal liabilities if the firm goes bankrupt and also because it is easier to transfer shares of stock than partnership interests.
True
The more capital a firm is likely to require, the greater the probability that it will be organized as a corporation.
True
In order to maximize its shareholders’ value, a firm’s management must attempt to maximize the expected EPS.
False
The primary operating goal of a publicly-owned firm interested in serving its stockholders should be to
Maximize the stock price per share over the long run, which is the stock’s intrinsic value
The board of directors is the highest ranking body in a corporation, and the chairman of the board is the highest ranking individual. The CEO generally works under the board and its chairman, and the board generally has the authority to remove the CEO under certain conditions. The CEO, however, cannot remove the board, but he or she can endeavor to have the board voted out and a new board voted in should a conflict arise. It is possible for a person to simultaneously serve as CEO and chairman of the board, though many corporate control experts believe it is bad to vest both offices in the same person.
True
Partnerships and proprietorships generally have a tax advantage over corporations.
False
Which of the following statements is CORRECT?
If someone deliberately understates costs and thereby causes reported profits to increase, this can cause the stock price to rise above its intrinsic value. The stock will probably fall in the future. Both those who participated in the fraud and the firm itself can be prosecuted.
In order to maximize its shareholders’ value, a firm’s management must attempt to maximize the stock price on a specific target date.
False
The primary operating goal of a publicly-owned firm trying to best serve its stockholders should be to
WRONG – Maximize the fir’s expected EPS, which must also maximize the firm’s price per share.
Which of the following statements is CORRECT?
WRONG – Most businesses (by number and total dollar sales) are organized as proprietorships or partnerships because it is easier to set up and operate one of these forms rather than as a corporation. However, if the business gets very large, it becomes advantageous to convert to a corporation, primarily because corporations have important tax advantages over proprietorships and partnerships.
If a lower level person in a firm does something illegal, like “cooking the books” to understate costs and thereby increase profits above the correct profits because he or she was told to do so by a superior, the lower level person cannot be prosecuted but the superior can be prosecuted.
F
Which of the following statements is CORRECT?
a. The creation of the Securities and Exchange Commission (SEC) has eliminated conflicts between managers and stockholders.
b. The threat of takeovers tends to reduce potential conflicts between stockholders and managers.
c. Managerial compensation plans cannot be used to reduce potential conflicts between stockholders and managers.
d. One of the ways in which firms can mitigate or reduce potential conflicts between bondholders and stockholders is by increasing the amount of debt in the firm’s capital structure.
e. The threat of takeover generally increases potential conflicts between stockholders and managers.
The threat of takeovers tends to reduce potential conflicts between stockholders and managers.
Which of the following statements is CORRECT?
a. Because of their size, large corporations face fewer regulations than smaller corporations and proprietorships.
b. Bond covenants are designed to protect bondholders and to reduce potential conflicts between stockholders and bondholders.
c. Reducing the threat of corporate takeover increases the likelihood that managers will act in shareholders’ interests.
d. Corporations have unlimited liability.
e. Corporations are taxed more favorably than proprietorships.
Bond covenants are designed to protect bondholders and to reduce potential conflicts between stockholders and bondholders.
Charleston Corporation (CC) now operates as a “regular” corporation, but it is considering a switch to S Corporation status. CC is owned by 100 stockholders who each hold 1% of the stock, and each faces a personal tax rate of 35%. The firm earns $2,800,000 per year before taxes, and since it has no need for retained earnings, it pays out all of its earnings as dividends. Assume that the corporate tax rate is 34% and the personal tax rate is 35%. How much more (or less) spendable income would each stockholder have if the firm elected S Corporation status?
6,188

Calculate S Corp Status
Corporate Rate 34% = 2,800,000 * 0.66 = 952,000 to distribute to 100 stockholders. 952,000/100 = 9,520
Now each stockholder pays taxes at 35%
9520 * 0.65 = 6,188

Double Taxed at the Corporate/Personal Levels

If management operates in a manner designed to maximize the firm’s expected profits for the current year, this will also maximize the stockholders’ wealth as of the current year.
False
Which of the following statements is CORRECT?
a. One of the advantages of the corporate form of organization is that it avoids double taxation.
b. It is easier to transfer one’s ownership interest in a partnership than in a corporation.
c. Corporations of all types are subject to the corporate income tax.
d. One of the disadvantages of a proprietorship is that the proprietor is exposed to unlimited liability.
e. One of the advantages of a corporation from a social standpoint is that every stockholder has equal voting rights, i.e., “one person, one vote.”
One of the disadvantages of a proprietorship is that the proprietor is exposed to unlimited liability.
With which of the following statements would most people in business agree?
a. Firms and government agencies almost always agree with one another regarding the restrictions that should be placed on hiring and firing employees.
b. “Whistle blowers,” because of the courage it takes to blow the whistle, are generally promoted more rapidly than other employees.
c. It is not useful for large corporations to develop a formal set of rules defining ethical and unethical behavior.
d. A corporation’s short-run profits will almost always increase if the firm takes actions that the government has determined are in the best interests of the nation.
e. Although people’s moral characters are probably developed before they are admitted to a business school, it is still useful for business schools to cover ethics, if only to give students an idea about the adverse consequences of unethical behavior to themselves, their firms, and the nation.
Although people’s moral characters are probably developed before they are admitted to a business school, it is still useful for business schools to cover ethics, if only to give students an idea about the adverse consequences of unethical behavior to themselves, their firms, and the nation.
If a corporation elects to be taxed as an S corporation, then both it and its stockholders can avoid all Federal taxes. This provision was put into the Federal Tax Code in order to encourage the formation of small businesses.
False
Which of the following statements is CORRECT?
a. Corporations face few regulations and more favorable tax treatment than do proprietorships and partnerships.
b. Managers who face the threat of hostile takeovers are less likely to pursue policies that maximize shareholder value compared to managers who do not face the threat of hostile takeovers.
c. Bond covenants are an effective way to resolve conflicts between shareholders and managers.
d. Because of their simplified organization, it is easier for proprietors and partnerships to raise large amounts of outside capital than it is for corporations.
e. One advantage to forming a corporation is that the owners of the firm have limited liability.
One advantage to forming a corporation is that the owners of the firm have limited liability.
If a corporation elects to be taxed as an S corporation, then it can avoid the corporate tax. However, its stockholders will have to pay personal taxes on the firm’s net income.
True