CFA Practice Question

There are 201 practice questions for this study session.

CFA Practice Question

Which of the following statements is (are) true with respect to the relationship between EVA, MVA, and the franchise factor concept?

I. In the theory, EVA should be present value of all the future changes in the firm's MVA, discounted by the firm's WACC.
II. The differences between the firm's market value of capital and book value of capital should be theoretically equal to the present value of the firm's future EVA for each period discounted by WACC.
III. Since EVA measures are more objective than accounting profits, current EVA would make for a good proxy for the firm's future periods' EVA.
IV. Franchise factor concept stipulates that the franchise P/E is that portion of the firm's observed P/E which is in excess of the reciprocal of the firm's cost of equity.
A. I and IV
B. II, III, and IV
C. II and IV
Explanation: I is incorrect because in theory, MVA should be the present value of all the future periods' EVA, discounted by the firm's WACC.

II is correct for the reasons indicated in the previous sentence. Remember, MVA is the difference between the firm's market value of capital and book value of capital.

III is incorrect because while EVA measure may be more objective than accounting profits, EVA itself is based on past performance. Hence, economic profits that may have existed previously will slowly begin to be eroded in the future as the mere existence of economic profits will begin to attract competition. Thus, current EVA would make for a poor proxy for the firm's future periods' EVA.

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