Drill 30 ·
AP Business with Personal Finance: Mixed Finance and Strategy Drill 30 is a practice drill. It contains 5 original questions created by Brian Stewart, a Barron's test prep author with over 20 years of tutoring experience.
A capstone drill in which a landscaping firm chooses how to fund an expansion and recommends a path with evidence; it uses an invented company and original figures.
Sennfield Grounds is a landscaping firm planning a 40,000-dollar expansion to take on larger commercial jobs. It is choosing between two ways to fund the expansion. Option A is a 1-year bank loan of 40,000 dollars at 8 percent simple annual interest. Option B is to sell a 25 percent ownership share to an outside investor for 40,000 dollars. This option charges no interest, but it gives the investor one quarter of all future profits. The owner notes this is the same tradeoff a household faces when it borrows for a large purchase instead of giving up something it owns: a loan must be repaid with interest, but it keeps full ownership.
Sennfield Grounds: Two Funding Options for a 40,000-dollar Expansion
| Feature | Option A: bank loan | Option B: sell equity |
|---|---|---|
| Amount raised | 40,000 | 40,000 |
| Interest rate (simple, 1 year) | 8% | None |
| Ownership given up | None | 25% |
| Claim on future profits | None | 25% ongoing |
Question 1. Q1. According to the table, which option requires giving up ownership, and how much?
Explanation: The answer is B (Option B, 25 percent). The table shows Option B giving up a 25 percent ownership share, while Option A gives up none. A assigns the ownership cost to the wrong option. C swaps in the loan's interest rate for the ownership share. D is wrong because Option B does give up ownership.
Question 2. Q2. Option A raises money by borrowing, and Option B raises money by selling part of the company. These two approaches are best described as which pair?
Explanation: The answer is C (debt financing versus equity financing). Borrowing money that must be repaid is debt financing, and selling an ownership share is equity financing. A names a cost classification, not a way to raise money. B names two profit measures, not funding sources. D names two business functions unrelated to how the expansion is funded.
Question 3. Q3. For Option A, simple interest equals principal times rate times time. What is the total interest on the 40,000-dollar loan after 1 year at 8 percent simple interest?
Explanation: The answer is A (3,200 dollars). Simple interest is 40,000 times 0.08 times 1, which is 3,200. B misplaces the decimal and uses 0.008. C and D do not match a rate of 8 percent on 40,000 for one year. Because the term is one year of simple interest, no compounding table or financial calculator is needed.
Question 4. Q4. The owner expects the expansion to earn large, growing profits for many years. Why might the loan (Option A) fit that expectation better than selling equity (Option B)?
Explanation: The answer is D. With the loan, the firm repays the 40,000 principal plus a one-time 3,200 in interest, after which it keeps all of its profit, while equity hands an outside investor 25 percent of profits every year indefinitely, which grows costly as profits grow. A describes Option B, the equity sale, not the loan. B reverses the comparison; for a firm with large growing profits the ongoing 25 percent share is the more expensive choice, not the loan. C is false because equity is not repaid with interest; the loan is.
Question 5. Q5. The owner's stated objective is to keep the largest possible share of future profits while still funding the expansion. Which recommendation is best supported by the figures?
Explanation: The answer is B. The objective is to keep the largest share of future profits. Option A requires repaying the 40,000 loan plus 3,200 in interest, but it leaves the firm with 100 percent of future profits once the loan is paid off. Option B raises the same 40,000 without interest, but it permanently gives the investor 25 percent of future profits. A focuses on the no-interest feature but ignores the larger ongoing cost of a lost profit share. C is unsupported; a one-time 3,200 in interest is far less than a perpetual 25 percent claim once profits are sizable. D is wrong because raising the same amount does not make the options equivalent, since their costs and ownership effects differ.