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1.
According to the father of value investing, Benjamin Graham, the market could be compared to either a _______.
Choose wisely. There is only one correct answer.
Voting machine or a weighing machine. A voting machine assesses the popularity of a company, while a weighing machine assesses its substance. Investors tend to treat companies as a voting machine in the short run, but a weighing machine in the long run.
2.
Company A generates $500 million in profits and its return on capital is 10%. Company B generates $250 million in profits and its return on capital is 20%. Which company is more profitable?
Choose wisely. There is only one correct answer.
Company B. Although Company A generates profits of $500 million, which is greater in absolute terms than Company B's $250 million in profits, Company A has a lower return on capital. For every $1 that investors put into Company A, they get back $0.10 in profits per year. However, for every $1 that investors put into Company B, they get back $0.20 per year.
3.
If a company is unable to pay its creditors back and goes bankrupt, stock shareholders will be first in line to get a claim on its assets.
Choose wisely. There is only one correct answer.
False. Stockholders will be last to get their claim. Creditors will be in line before them (but after the IRS, of course).
4.
A company's return on capital is calculated by _______.
Choose wisely. There is only one correct answer.
Dividing profit by invested capital.
5.
All else equal, if a company's total number of shares outstanding is increasing, your ownership stake in that company is _______.
Choose wisely. There is only one correct answer.
Decreasing. As a company adds shares outstanding, your ownership interest in the firm decreases. Shareholders can benefit more from owning one share of a billion-dollar company that has only 100 shares (a 1% ownership interest) than by owning 100 shares of a billion-dollar company that has a million shares outstanding (a 0.01% ownership interest).