AFM 121 EXAM QUESTIONS AND ANSWERS WITH COMPLETE
SOLUTIONS GRADED A++
Sole proprietorship
one person owning and running
pros-easy to create
cons- unlimited liability, income tax at personal level
(True) partnership
like a sole proprietor but more than one owner
cons-unlimited liability, income taxed at personal level
Limited Partnership
goal is to get money to invest in other businesses, two types of ownership (general
partners, limited partners)
-Limited partners have limited liability which is limited to their investment
pros-death/withdrawal of limited partner doesn't stop business, limited liability
Limited Liability Partnership
-special form of partnership in Canada
-partners can be active in management and have some degree of unlimited liability
What is Finance?
-branch of economics concerned with resource allocation (ie. Capital- equity, debt),
resource management, acquisition & investment. It's art/science of managing money,
assets
,What are the two parts of capital in finance?
- equity (ownership of company)
-debt (obligation)
What are banks?
-dominant financial intermediary in Canada
How does banking work?
-get deposits (offer safety, pay interest)
-issues loans (diversify risk, charge interest)
-collect the spread (difference between interest paid to get deposit and the interest they
are getting on the loan)
What is investment banking?
-offer transaction/advisory services
-collect commissions and fees
What are financial markets?
-a venue for lenders & investors to give capital to borrowers & business (with interest)
-way for savers to supply to borrowers
-borrowers might not be able to operate as desired with the retained earnings they have
now
Flow of funds
Lenders (savers-households, businesses, govts) ---> Financial intermediaries--->
borrowers (spenders- households, businesses, govts)
Lenders (savers-households, businesses, govts) ---> Financial markets
, Financial intermediaries---> financial markets
Functions of Financial Markets
-aggregate and centralize buyers & sellers of financial assets
-provide info about prices, may increase competition amongst buyers (or decrease if it's
a monopoly)
-physical mechanism for which ownership and money can transfer from sellers to
buyers
-goal: easy and transparent to buy debt/stock (reduce search and transaction costs)
Financial intermediaries
-a lot of entities that make money off of the financial markets
How do financial intermediaries provide liquidity?
-buyers and sellers aren't always able to find each others at the right time so financial
intermediaries will buy it
Moral Hazard
-buyers and sellers have different incentives
-sellers may lie about products to benefit themselves
**regulation comes into play
Adverse Selection
-individuals don't have time/expertise to do enough research on an investment so
financial intermediaries are supposed to analyze for a fee
Asymmetry in information
SOLUTIONS GRADED A++
Sole proprietorship
one person owning and running
pros-easy to create
cons- unlimited liability, income tax at personal level
(True) partnership
like a sole proprietor but more than one owner
cons-unlimited liability, income taxed at personal level
Limited Partnership
goal is to get money to invest in other businesses, two types of ownership (general
partners, limited partners)
-Limited partners have limited liability which is limited to their investment
pros-death/withdrawal of limited partner doesn't stop business, limited liability
Limited Liability Partnership
-special form of partnership in Canada
-partners can be active in management and have some degree of unlimited liability
What is Finance?
-branch of economics concerned with resource allocation (ie. Capital- equity, debt),
resource management, acquisition & investment. It's art/science of managing money,
assets
,What are the two parts of capital in finance?
- equity (ownership of company)
-debt (obligation)
What are banks?
-dominant financial intermediary in Canada
How does banking work?
-get deposits (offer safety, pay interest)
-issues loans (diversify risk, charge interest)
-collect the spread (difference between interest paid to get deposit and the interest they
are getting on the loan)
What is investment banking?
-offer transaction/advisory services
-collect commissions and fees
What are financial markets?
-a venue for lenders & investors to give capital to borrowers & business (with interest)
-way for savers to supply to borrowers
-borrowers might not be able to operate as desired with the retained earnings they have
now
Flow of funds
Lenders (savers-households, businesses, govts) ---> Financial intermediaries--->
borrowers (spenders- households, businesses, govts)
Lenders (savers-households, businesses, govts) ---> Financial markets
, Financial intermediaries---> financial markets
Functions of Financial Markets
-aggregate and centralize buyers & sellers of financial assets
-provide info about prices, may increase competition amongst buyers (or decrease if it's
a monopoly)
-physical mechanism for which ownership and money can transfer from sellers to
buyers
-goal: easy and transparent to buy debt/stock (reduce search and transaction costs)
Financial intermediaries
-a lot of entities that make money off of the financial markets
How do financial intermediaries provide liquidity?
-buyers and sellers aren't always able to find each others at the right time so financial
intermediaries will buy it
Moral Hazard
-buyers and sellers have different incentives
-sellers may lie about products to benefit themselves
**regulation comes into play
Adverse Selection
-individuals don't have time/expertise to do enough research on an investment so
financial intermediaries are supposed to analyze for a fee
Asymmetry in information
