FIna Chapter 6
The decision to refund a callable bond ________. A) should be made only if interest rates have increased B) is a net working capital decision C) is a capital budgeting decision D) is an investing decision
C
________ are secured by stock and/or bonds that are owned by the issuer. A) Mortgage bonds B) Equipment trust certificates C) Collateral trust bonds D) Subordinated debentures
C
A bond with short maturity has less "interest rate risk" than a bond with long maturity when all other features—coupon interest rate, par value, and interest payment frequency—are the same.
TRUE
A conversion feature in a bond allows bondholders to change each bond into a stated number of shares of common stock.
TRUE
A flat yield curve means that the rates do not vary much at different maturities.
TRUE
A foreign bond is a bond issued by a foreign corporation or government and is denominated in the investor's home currency and sold in the investor's home market.
TRUE
A normal yield curve is upward-sloping and indicates generally cheaper short-term borrowing costs than long-term borrowing costs.
TRUE
An interest rate or a required rate of return represents the cost of money.
TRUE
An inverted yield curve is a downward-sloping yield curve that indicates that short-term interest rates are generally higher than long-term interest rates.
TRUE
Any Ba rated bond or lower would be considered speculative or "junk."
TRUE
As a bond approaches maturity, the price of the bond will approach its par value until, the bond is worth its face value at maturity.
TRUE
Coupon interest rate on a bond represents the percentage of the bond's par value that will be paid annually, typically in two equal semiannual payments, as interest.
TRUE
Debentures such as convertible bonds are unsecured bonds that only the most creditworthy firms can issue.
TRUE
Duration measures the sensitivity of a bond's prices to changing interest rates.
TRUE
High-quality (high-rated) bonds provide lower returns than lower-quality (low-rated) bonds.
TRUE
IBM stock will experience greater trading activity (in terms of the number of shares traded on a given day) compared to IBM bonds.
TRUE
If a bond's required return always equals its coupon interest rate, the bond's value will remain at par until it matures.
TRUE
In a bond indenture, subordination is the stipulation that subsequent creditors agree to wait until all claims of the senior debt are satisfied.
TRUE
In a bond indenture, the term "security interest" refers to collateral pledged against the bond.
TRUE
In the valuation process, the higher the risk, the greater is the required return.
TRUE
In theory, the rate of return on U.S. Treasury bills should always exceed the rate of inflation as measured by the consumer price index.
TRUE
Increases in the basic cost of long-term funds or in risk will raise the required return on a bond.
TRUE
Interest rate risk is the risk that results from the changes in interest rates and thereby impact the bond value.
TRUE
Longer the maturity, higher is the cost of a bond.
TRUE
Nominal rate of interest is equal to the sum of the real rate of interest plus an inflation premium plus a risk premium.
TRUE
Restrictive covenants are contractual clauses in long-term debt agreements that place certain operating and financial constraints on the borrower.
TRUE
Restrictive covenants place operating and financial constraints on the borrower.
TRUE
Restrictive covenants, coupled with standard debt provisions, help the lender to monitor the borrower's activities to ensure efficient use of funds.
TRUE
Risk-free rate of interest is equal to the sum of the real rate of interest plus an inflation premium.
TRUE
Since a putable bond gives its holder the right to "put the bond" at specified times or because of specified actions by the issuing firm, the bond's yield would be lower than that of an otherwise equivalent non-putable bond.
TRUE
Since the issuer of zero (or low) coupon bonds can annually deduct the current year's interest accrual without having to actually pay the interest until the bond matures (or is called), its cash flow each year is increased by the amount of the tax shield provided by the interest deduction.
TRUE
Subordination means that subsequent creditors agree to wait until all claims of the senior debt are satisfied.
TRUE
The bond indenture identifies any collateral pledged against a bond and specifies how it is to be maintained.
TRUE
The call option in a bond has a greater chance of being exercised (to the detriment of the bondholder) if market interest rates have fallen since the bond was issued.
TRUE
The components of risk premium includes business risk, financial risk, interest rate risk, liquidity risk, and tax risk.
TRUE
The expectations theory suggests that the shape of the yield curve reflects investors expectations about future interest rates.
TRUE
The liquidity preference theory suggests that for any given issuer, long-term interest rates tend to be higher than short-term rates due to the lower liquidity and higher responsiveness to general interest rate movements of longer-term securities, this causes the yield curve to be upward-sloping.
TRUE
The liquidity preference theory suggests that short-term interest rates should be lower than long-term interest rates.
TRUE
The market price of a callable bond will not generally exceed its call price, except in the case of a convertible bond.
TRUE
The market segmentation theory suggests that the shape of the yield curve is determined by the supply and demand for funds within each maturity segment.
TRUE
The nominal rate of interest is the actual rate of interest charged by the supplier of funds and paid by demander.
TRUE
The possibility that the issuer of a bond will not pay the contractual interest or principal payments as scheduled is called default risk.
TRUE
The reason for a difference in the yield between a Aaa corporate bond and an otherwise identical Baa bond is the risk premium
TRUE
The required return on a bond is likely to differ from the stated interest rate for either of two reasons: 1) economic conditions have changed, causing a shift in the basic cost of long-term funds, or 2) the firm's risk has changed.
TRUE
The term structure of interest rates is a graphical presentation of the relationship between the maturity and rate of return.
TRUE
The value of an asset is determined by discounting the expected cash flows back to its present value, using an appropriate discount rate.
TRUE
The yield to maturity on a bond with a current price equal to its par or face value, will always be equal to the coupon interest rate.
TRUE
There is an inverse relationship between the quality or rating of a bond and the rate of return it must provide bondholders.
TRUE
To carry out systematic retirement of bonds, a corporation makes semiannual or annual payments that are used to retire bonds by purchasing them in the marketplace.
TRUE
To sell a callable bond, the issuer must pay a higher interest rate than on an otherwise equivalent noncallable bond.
TRUE
Upward-sloping yield curves result from higher future inflation expectations, lender preferences for shorter maturity loans, and greater supply of short-term as opposed to long-term loans relative to their respective demand.
TRUE
Valuation is the process that links risk and return to determine the worth of an asset.
TRUE
When a bond's required return is greater than its coupon interest rate, the bond value will be less than its par value.
TRUE
When a bond's value differs from par, its yield to maturity will differ from its coupon interest rate.
TRUE
When the required return is different from the coupon interest rate and is constant until maturity, the value of the bond will approach its par value as it nears maturity.
TRUE
Yield to call represents the rate of return that investors earn if they buy a callable bond at a specific price and hold it until it is called back and they receive the call price, which would be set above the bond's par value.
TRUE
Yield to maturity (YTM) is the rate investors earn if they buy the bond at a specific price and hold it until maturity.
TRUE
other things being equal.
TRUE
23) The purpose of the debt covenant that prohibits borrowers from entering into certain types of leases is to ________. A) protect the lender by controlling the risk and marketability of the borrower's security investments alternatives B) limit the amount of fixed-payment obligations C) ensure a cash shortage does not cause an inability to meet current obligations D) limit the annual cash dividends paid by the firm
B
44) ________ are popular vehicle used to finance mergers and takeovers. A) Income bonds B) Junk bonds C) Floating rate bonds D) Convertible debentures
B
A ________ is a restrictive provision in a bond indenture, providing for the systematic retirement of the bonds prior to their maturity. A) redemption clause B) sinking-fund requirement C) conversion feature D) subordination clause
B
A bond rated Aaa according to Moody's, is considered ________. A) a high grade bond B) a prime quality bond C) an upper medium grade bond D) a medium grade bond
B
If a corporate bond is issued with a coupon rate that varies directly with the required return, the price of the bond will ________. A) equal the face value B) be less than the face value C) be greater than the face value D) be greater than or less than the face value depending on how interest rates vary
A
A ________ give bondholders the right to purchase a certain number of shares of the issuer's common stock at a specified price over a certain period of time. A) stock purchase warrant B) call feature C) swap D) conversion feature
A
A bond will sell ________ when the stated rate of interest exceeds the required rate of return, ________ when the stated rate of interest is less than the required return, and ________ when the stated rate of interest is equal to the required return. A) at a premium, at a discount, equal to the par value B) at a premium, equal to the par value, at a discount C) at a discount, at a premium, equal to the par value D) equal to the par value, at a premium, at a discount
A
A foreign bond is issued by a(n) ________. A) foreign corporation or government and is denominated in the investor's home currency and sold in the investor's home market B) corporation or government and is denominated in the investor's foreign currency and sold in the foreign market C) international borrower and sold to investors in countries with currencies other than the local currency D) international borrower and sold to investors in countries with currencies in which the bond is denominated
A
A(n) ________ is a graphic depiction between the maturity and rate of return for bonds with similar risks. A) yield curve B) supply function C) risk-return profile D) aggregate demand curve
A
A(n) ________ is a paid individual, corporation, or a commercial bank trust department that acts as a third party to a bond indenture. A) trustee B) investment banker C) bond issuer D) bond rating agency
A
A(n) ________ yield curve reflects higher expected future rates of interest. A) upward-sloping B) flat C) downward-sloping D) linear
A
An upward-sloping yield curve that indicates cheaper short-term borrowing costs than long-term borrowing costs is called as ________. A) normal yield curve B) inverted yield curve C) flat yield curve D) lognormal yield curve
A
Convertible bonds are normally ________. A) debentures B) income bonds C) zero coupon bonds D) mortgage bonds
A
On ________, the stated interest rate is adjusted periodically within stated limits in response to changes in specified money or capital market rates. A) a floating rate bond B) a zero coupon bond C) a mortgage bond D) an equipment trust certificate
A
The ________ feature permits the issuer to repurchase bonds at a stated price prior to maturity. A) call B) conversion C) put D) swap
A
The ________ in the capital market is the basis for determining a bond's coupon interest rate. A) cost of money B) weighted average cost of capital C) bond's face value D) average coupon interest rate
A
The current yield on a bond is measured by ________. A) the annual interest payment divided by the current price B) the annual interest payment divided by the par value C) the annual interest payment divided by the maturity value D) the annual interest payment divided by the yield to maturity
A
The legal contract setting forth the terms and provisions of a corporate bond is a(n) ________. A) indenture B) debenture C) loan document D) promissory note
A
The yield curve in an economic period where higher future inflation is expected would be ________. A) upward-sloping B) flat C) downward-sloping D) lognormal
A
To compensate for the uncertainty of future interest rates and the fact that the longer the term of a loan the higher the probability that the borrower will default, the lender typically ________. A) charges a higher interest rate on long-term loans B) reserves the right to change the terms of the loan at any time C) includes excessively restrictive debt provisions D) reserves the right to demand immediate payment at any time
A
When the required return is constant and equal to the coupon rate, the price of a bond as it approaches its maturity date will ________. A) remain at par B) increase C) decrease D) change depending on whether it is a discount or premium bond
A
Which of the following affects the cost of a bond? A) maturity of a bond B) dividend policy C) fixed assets purchased from the proceeds of bond issue D) money market regulations
A
Which of the following explains the general shape of the yield curve of a bond? A) Expectations theory B) Perfect market theory C) Capital asset pricing theory D) Securities market theory
A
________ rate of interest is the actual rate charged by the supplier and paid by the demander of funds. A) Nominal B) Real C) Risk-free D) Inflationary
A
A debt instrument indicating that a corporation has borrowed a certain amount of money and promises to repay it in the future under clearly defined terms is called a(n) ________. A) common stock B) corporate bond C) indenture D) preferred stock
B
A downward-sloping yield curve that indicates generally cheaper long-term borrowing costs than short-term borrowing costs is called ________. A) normal yield curve B) inverted yield curve C) flat yield curve D) linear yield curve
B
A type of long-term financing used by both corporations and government entities is ________. A) common stocks B) bonds C) preferred stocks D) retained earnings
B
A(n) ________ is issued with no or very low coupon and sells significantly below its par value. A) income bond B) zero or low coupon bond C) mortgage bond D) subordinated debenture
B
ABC company has two bonds outstanding that are the same except for the maturity date. Bond D matures in 4 years, while Bond E matures in 7 years. If the required return changes by 5 percent, then ________. A) bond D will have a greater change in price B) bond E will have a greater change in price C) the price of the bonds will be constant D) the percentage price change for the bonds will be equal
B
An example of a standard debt provision is to ________. A) limit the corporation's annual cash dividend payments B) pay taxes and other liabilities when due C) restrict the corporation from disposing of fixed assets D) maintain a minimum level of liquidity
B
Assume the following returns and yields: U.S. T-bill = 8%, 5-year U.S. T-note = 7%, IBM common stock = 15%, IBM AAA Corporate Bond = 12% and 10-year U.S. T-bond = 6%. Based on this information, the shape of the yield curve is ________. A) upward sloping B) downward sloping C) flat D) normal
B
Bond indentures include restrictive covenants.These provisions protect the bondholders against ________. A) increase in inflation rate B) increase in borrower's risk C) decrease in liquidity risk D) maturity risk
B
Generally, an increase in risk will result in ________. A) a lower required return or interest rate B) a higher required return or interest rate C) a higher return on investment D) a lower return on investment
B
If the coupon rate of a bond is equal to its required rate of return, then ________. A) the current value is not equal to par value B) the current value is equal to par value C) the maturity value is equal to par value D) the current value is equal to maturity value
B
If the required return is greater than the coupon rate, a bond will sell at ________. A) par B) a discount C) a premium D) book value
B
Payment of interest required only when earnings are made available from which to make a payment is characteristic of a(n) ________. A) floating rate bond B) income bond C) mortgage bond D) equipment trust certificate
B
Stated interest rate under ________ is adjusted periodically within stated limits in response to changes in specified money market or capital market rates. A) junk bonds B) floating rate bonds C) extendible notes D) putable bonds
B
Stock purchase warrants are instruments that give their holders ________. A) the obligation to purchase a certain number of shares of the issuer's common stock at a specified price over a certain period of time B) the right to purchase a certain number of shares of the issuer's common stock at a specified price over a certain period of time C) the obligation to sell a certain number of shares of the issuer's preferred stock at a specified price over a certain period of time D) the right to sell a certain number of shares of the issuer's preferred stock at a specified price over a certain period of time
B
The ________ feature allows bondholders to change each bond into stated number of shares of stock. A) call B) conversion C) put D) swap
B
The key inputs to the valuation process include ________. A) returns and risk B) cash flow, cash flow timing, and risk C) cash flows and discount rate D) returns, discount rate, and risk
B
The process that links risk and return in order to determine the worth of an asset is termed ________. A) securitization B) valuation C) discounting D) compounding
B
The return expected from an asset is fully defined by its ________. A) risk and cash flow B) cash flow and timing C) discount rate D) beta
B
The size of a loan and its issuance costs (as a percentage of the amount borrowed) are ________. A) not related B) inversely related C) independent D) perfectly positively correlated
B
The theory suggesting that for any given issuer, long-term interest rates tends to be higher than short-term rates is called ________. A) expectation hypothesis B) liquidity preference theory C) market segmentation theory D) interest parity theory
B
The value of a bond is the present value of its interest payments plus ________. A) future value of its par value B) present value of its par value C) its face value D) present value of interest payment
B
The value of any asset is the ________. A) sum of all future cash flows it is expected to provide over the relevant time period B) sum of the present values of all future cash flows it is expected to provide over the relevant time period C) present value of the sum of all future cash flows it is expected to provide over the relevant time period D) sum of all compounded future cash flows it is expected to provide over the relevant time period
B
When issuing a(n) ________ the issuer can annually deduct the current year's interest accrual without having to actually pay the interest until the bond matures. A) junk bond B) zero coupon bond C) floating rate bond D) extendible note
B
________ allow bondholders to purchase a certain number of shares of the firm's common stock at a specified price over a certain period of time. A) Call options B) Stock purchase warrants C) Debentures D) Put options
B
________ are claims that are not satisfied until those of the creditors holding certain (senior) debts have been fully satisfied. A) Convertible debentures B) Subordinated debentures C) Mortgage bonds D) Collateral trust bonds
B
________ are commonly issued in the reorganization of a failed or failing firm. A) Floating rate bonds B) Income bonds C) Mortgage bonds D) Equipment trust certificates
B
________ bonds are characterized by interest payments that are required only when earnings are available. A) Floating rate B) Income C) Mortgage D) Junk
B
________ have a short maturities, typically one to five years, and which can be renewed for a similar period at the option of their holders. A) Floating rate bonds B) Extendible notes C) Putable bonds D) Junk bonds
B
________ is used to finance "rolling stock"—airplanes,trucks,boats,railroad cars. A) Income bonds B) Equipment trust certificates C) Collateral trust bonds D) Subordinated debentures
B
________ mainly explains the tendency for the yield curve to be upward sloping. A) Expectations theory B) Liquidity preference theory C) Market segmentation theory D) Investor perception theory
B
________ means that subsequent creditors agree to wait until all claims of the are senior debt satisfied before having their claims satisfied. A) Security interest B) Subordination C) Sinking fund requirement D) Bond indenture
B
________ rate of interest creates equilibrium between the supply of savings and the demand for investment funds. A) Nominal B) Real C) Risk-free D) Inflationary
B
A $1,000, 8% bond sells for 980. $1,000 is called the ________. A) current value B) market value C) par value D) auction value
C
A significant portion of the return on a zero coupon bond is in the form of ________. A) interest and gain in value B) interest C) gain in value D) tax reduction
C
A yield curve that reflects relatively similar borrowing costs for both short-term and long-term loans is called as ________. A) normal yield curve B) inverted yield curve C) flat yield curve D) lognormal curve
C
A(n) ________ gives purchasers inflation protection. A) zero-coupon bond B) junk bond C) floating rate bond D) income bond
C
A(n) ________ is secured by real estate. A) income bond B) debenture C) mortgage bond D) subordinated debenture
C
A(n) ________ yield curve reflects lower expected future rates of interest. A) upward-sloping B) flat C) downward-sloping D) linear
C
Bonds are ________. A) a series of perpetual short-term debt instruments B) a form of equity financing that pays interest C) long-term debt instruments used to raise large sums of money D) a hybrid form of financing used to raise large sums of money from a diverse group of lenders
C
Bonds which sell at less than face value are priced at a ________, while bonds which sell at greater than face value sell at a ________. A) par, premium B) discount, par C) discount, premium D) coupon, premium
C
Deeply discounted bond that pays no coupon interest is a ________. A) junk bond B) floating rate bond C) zero coupon bond D) subordinated debenture
C
For an investor who plans to purchase a bond maturing in one year, the primary consideration should be ________. A) retained earnings B) face value C) yield to maturity D) net income
C
If the required return is less than the coupon rate, a bond will sell at ________. A) par B) a discount C) a premium D) book value
C
In the basic valuation model, risk is generally incorporated into the ________. A) cash flows B) timing C) discount rate D) total value
C
Interest rate risk and the time to maturity have a relationship that is best characterized as ________. A) constant B) varying C) direct D) inverse
C
Less certain a cash flow, the ________ the risk, and ________ the present value of the cash flow. A) lower, higher B) lower, lower C) higher, lower D) higher, higher
C
The ________ rate is typically the nominal rate of interest on a three-month U.S. Treasury bill. A) expected B) real C) risk-free D) premium
C
The cost of a long-term debt generally ________ that of a short-term debt. A) is less than B) is equal to C) is greater than D) is less than or equal to
C
The purpose of the debt covenant that requires maintaining a minimum level of net working capital is to ________. A) protect the lender by controlling the risk and marketability of the borrower's security investment alternatives B) limit the amount of fixed-payment obligations C) ensure a cash shortage does not cause an inability to meet current obligations D) limit the annual cash dividends paid by the firm
C
The purpose of the restrictive debt covenant that prohibits the sale of accounts receivable is to ________. A) assure the lender that additional borrowing is constrained B) limit the amount of fixed-payment obligations C) limit the realization of current assets to cash D) limit the payment of annual cash dividends
C
The riskiness of publicly traded bond issues is rated by independent agencies. According to Moody's rating system, an Aaa bond and a Caa bond are ________ and ________ respectively. A) speculative, investment grade B) prime quality, medium grade C) prime quality, speculative D) medium grade, lowest grade
C
The yield curve in an economic period where lower future inflation is expected would be ________. A) upward-sloping B) flat C) downward-sloping D) exponential
C
Yield to maturity on a bond with price equal to its par value will ________. A) be less than the coupon rate B) be more than the coupon rate C) always be equal to the coupon rate D) be less than or equal to the coupon rate depending on the required return
C
________ are debt rated Ba or lower by Moody's or BB or lower by Standard & Poor's and are commonly used by rapidly growing firms to obtain growth capital, most often to finance mergers and takeovers. A) Subordinated debentures B) Mortgage bonds C) Junk bonds D) Equipment trust certificates
C
A debenture is ________. A) a bond secured by specific assets that any firm can issue B) a secured bond that is secured by unspecified assets C) a secured bond issued by startup firms D) an unsecured bond that only creditworthy firms can issue
D
A putable bond gives the bondholder ________. A) the right to sell the bond back to the corporation at a discount B) the right to sell the bond back to the corporation at a stated premium C) the right to redeem the bond back to the corporation at the current market value D) the right to redeem the bond back to the corporation at par
D
Bonds that can be redeemed at par at the option of their holders either at specific date after the date of issue and every 1 to 5 years thereafter or when and if the firm takes specified actions such as being acquired, acquiring another company, or issuing a large amount of additional debt are called ________. A) zero coupon bonds B) junk bonds C) floating-rate bonds D) putable bonds
D
High-risk, high-yield junk bonds have declined in popularity over time due to ________. A) the decline in mergers and takeovers, which these bonds were used to finance B) the declining need of growth capital C) the stabilizing of interest rates D) a number of major defaults on these bonds
D
Nominal rate of interest is equal to ________. A) the real rate plus an inflationary expectation B) the real rate plus a risk premium C) the risk-free rate plus an inflationary expectation D) the risk-free rate plus a risk premium
D
The ________ is the compound annual rate of interest earned on a debt security purchased on a given date and held to maturity. A) risk premium B) yield curve C) risk-free rate D) yield to maturity
D
The price of a bond with a fixed coupon rate and the required return have a relationship that is best described as ________. A) perfect positive correlation B) constant C) direct D) inverse
D
The purpose of the restrictive debt covenant that imposes fixed assets restrictions is to ________. A) protect the lender by controlling the risk and marketability of the borrower's security investment alternatives B) limit the amount of fixed-payment obligations C) ensure a cash shortage does not cause an inability to meet current obligations D) prevent the firm from liquidation and ensure its ability to repay the debt
D
The purpose of the restrictive debt covenant that limits the distribution of profits to shareholders is to ________. A) assure the lender that additional borrowing is constrained or may be subordinated to the original loan B) limit the amount of fixed-payment obligations C) ensure a cash shortage does not cause an inability to meet current obligations D) avoid default of payments to bondholders
D
The purpose of the restrictive debt covenant that requires that subsequent borrowing be subordinated to the original loan is to ________. A) maintain a minimum level of liquidity B) limit the amount of fixed-payment obligations C) ensure a long-run cash shortage does not cause an inability to meet current obligations D) protect the original lender in the priority of claims during liquidation
D
The term structure of interest rates is the relationship between ________. A) the present value of principal and coupon rate of the bonds B) the general expectation of inflation and nominal rate of return for bonds C) the general expectation of inflation and real rate of return for bonds D) the maturity and rate of return for bonds with similar level of risk
D
The value of a bond is the present value of the ________. A) dividends and maturity value B) interest and dividend payments C) maturity value D) interest payments and maturity value
D
When the required return is constant but different from the coupon rate, the price of a bond as it approaches its maturity date will ________. A) remain constant B) increase C) decrease D) approach par
D
Which of the following affects the slope of yield curve? A) tax rates B) dividend policy C) selection of accounting standards D) liquidity preferences
D
Which of the following is a restrictive covenant? A) to maintain satisfactory accounting records B) to pay the taxes due C) to supply audited financial statements D) to impose fixed asset restrictions
D
Which of the following is true of risk premium? A) T-bills have a have a higher risk premium than that of Treasury bonds. B) The government bonds have a higher risk premium than that of corporate bonds. C) The speculative corporate issues have a lower risk premium than that of the higher rated corporate issues. D) The lower-rated corporate issues have a higher risk premium than that of the higher rated corporate issues.
D
A Eurobond is a bond issued by an international borrower and sold to investors in countries with currencies other than the country in which the bond is denominated.
TRUE
A bond issued by an American company that is denominated in Swiss Francs and sold in Switzerland would be an example of a foreign bond.
TRUE