Accounting and Finance Questions and Answers (MCQs & Essay questions) PDF

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This contains the questions of various chapters and modules of accounting and finance with MCQs and essay questions with calculations as well. ...

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Topic 1 Solutions to Review Questions Questions 1 & 2 1.

What are some of the problems involved in the use of profit maximisation as the goal of the firm? How does the goal of maximisation of shareholder wealth deal with those problems? Maximising accounting profit may be regarded as an inferior goal to wealth maximisation for a number of reasons. In particular, accounting profits: a.

are rarely the same as cash flows;

b.

do not take into account the timing of cash flows or the time value of money;

c.

ignore the risk associated with cash flows;

d. are open to abuse by management changing accounting policies: i.e. accounting profits can be changed simply by changing the accounting method; e. are based on historical data and ignore the present value effects of future opportunities and expectations. By comparison, wealth, as measured in terms of current market capitalisation (i.e. current share price multiplied by the number of issued shares), reflects both the cash flow consequences of past decisions, plus the present value of expected future cash flows. In this sense wealth maximisation is an all-inclusive goal. The emphasis is on cash flows and market capitalisation, because investing in a company (by buying shares) involves spending cash in the expectation of receiving future cash flows in the form of dividends and capital gains. From the company’s point of view, cash is required for servicing and repaying debt, paying dividends and financing new investments. History has demonstrated the superiority of cash flow and net wealth over accounting profits as measures of business viability. For example, some companies have reported accounting profits and still failed, as they had insufficient cash to meet their financial obligations. The importance of cash has been emphasised by the global financial crisis (GFC) of 20082009 when several companies either had to be rescued by another entity (typically the government) or simply folded as a result of an inability to meet their financial obligations. Even before the GFC several major Australian companies, including HIH Insurance, Ansett and OneTel, collapsed as a result of cash flow problems. None of the foregoing should be interpreted to mean that profits are unimportant: they are! Reported profits are always the focus of attention, ahead of reported cash flows, and companies can only pay dividends out of profits (whether current or retained).

2.

Firms often involve themselves in projects that do not result directly in profits; e.g. by supporting sporting events and the arts. Do these projects contradict the goal of maximisation of shareholder wealth? It is fairly common practice for major corporations to sponsor high-profile sporting and cultural events. The fact that such events are high-profile guarantees public exposure for the sponsor. In this respect such corporate sponsorships are similar to expenditure on advertising and promotion and to that extent are consistent with the goal of maximisation of shareholder wealth. An exception would arise in cases where the corporate sponsorship reflected the personal interests of the directors and senior management rather than a desire to increase the public exposure of the company. For example, a company might sponsor the opera simply because some of its directors enjoy opera. This would be an example of the agency problem. One way of dealing with this sort of problem would be to insist that all corporate sponsorship proposals be reviewed by an independent committee such as the audit committee. A number of the sponsorship behaviours of the management of CPA Australia have recently been called into question including their recent sponsorship of the Australian Open tennis tournament and sponsorship of the NBL http://www.afr.com/brand/rearwindow/cpa-australias-tennis-sponsorship-raises-eyebrows-20170129-gu0t60 Do you believe these sponsorships have been in the best interest of the members of CPA?...