FIN 401 Chapter 1

Which of the following statements is CORRECT? - Money markets are markets for common stocks and long-term debt. - While the distinctions are blurring, investment banks generally specialize in lending money, whereas commercial banks generally help companies raise capital from other parties. - A security whose value is derived from the price of some other "underlying" asset is called a liquid security. - Money market mutual funds usually invest most of their money in a well-diversified portfolio of liquid common stocks. - Capital market instruments include both long-term debt and common stocks.

Capital market instruments include both long-term debt and common stocks.

Cheers Inc. operates as a partnership. Now the partners have decided to convert the business into a regular corporation. Which of the following statements is CORRECT? - Cheers will find it more difficult to raise additional capital. - Assuming Cheers is profitable, less of its income will be subject to federal income taxes. - Cheers will now be subject to fewer regulations. - Cheers' investors will be exposed to less liability, but they will find it more difficult to transfer their ownership. - Cheers' shareholders (the ex-partners) will now be exposed to less liability.

Cheers' shareholders (the ex-partners) will now be exposed to less liability.

Which of the following would be most likely to lead to higher interest rates on all debt securities in the economy? - The Federal Reserve uses monetary policy in an attempt to stimulate the economy. - Households start saving a larger percentage of their income. - The economy moves from a boom to a recession. - Corporations step up their expansion plans and thus increase their demand for capital. - The level of inflation begins to decline.

Corporations step up their expansion plans and thus increase their demand for capital.

Which of the following statements is CORRECT? - If companies have fewer good investment opportunities, interest rates are likely to increase. - If expected inflation increases, interest rates are likely to increase. - Interest rates on all debt securities tend to rise during recessions because recessions increase the possibility of bankruptcy, hence the riskiness of all debt securities. - If individuals in general increase the percentage of their income that they save, interest rates are likely to increase.

If expected inflation increases, interest rates are likely to increase.

The primary operating goal of a publicly-owned firm interested in serving its stockholders should be to - Minimize the chances of losses. - Maximize the firm's expected total income. - Maximize the stock price on a specific target date. - Maximize the stock price per share over the long run, which is the stock's intrinsic value. - Maximize the firm's expected EPS.

Maximize the stock price per share over the long run, which is the stock's intrinsic value.

Which of the following statements is CORRECT? - Corporate stockholders are exposed to unlimited liability. - Due to limited liability, unlimited lives, and ease of ownership transfer, the vast majority of U.S. businesses (in terms of number of businesses) are organized as corporations. - Most business (measured by dollar sales) is conducted by corporations in spite of large corporations' often less favorable tax treatment, due to legal considerations related to ownership transfers and limited liability. - Large corporations are taxed more favorably than sole proprietorships. - Most businesses (by number and total dollar sales) are organized as partnerships or proprietorships because it is easier to set up and operate in one of these forms rather than as a corporation. However, if the business gets very large, it becomes advantageous to convert to a corporation, mainly because corporations have important tax advantages over proprietorships and partnerships.

Most business (measured by dollar sales) is conducted by corporations in spite of large corporations' often less favorable tax treatment, due to legal considerations related to ownership transfers and limited liability

Suppose the U.S. Treasury announces plans to issue $50 billion of new bonds. Assuming the announcement was not expected, what effect, other things held constant, would that have on bond prices and interest rates? - Prices and interest rates would both rise. - Prices would rise and interest rates would decline. - There would be no changes in either prices or interest rates. - Prices and interest rates would both decline. - Prices would decline and interest rates would rise.

Prices would decline and interest rates would rise.

Jane Doe, who has substantial personal wealth and income, is considering the possibility of starting a new business in the chemical waste management field. She will be the sole owner, and she has enough funds to finance the operation. The business will have a relatively high degree of risk, and it is expected that the firm will incur losses for the first few years. However, the prospects for growth and positive future income look good, and Jane plans to have the firm pay out all of its income as dividends to her once it is well established. Which of the legal forms of business organization would probably best suit her needs? - In this situation, the various forms of organization seem equally desirable. - Proprietorship, because of ease of entry. - S corporation, to gain some tax advantages and also to obtain limited liability. - Partnership, but only if she needs additional capital. - Regular corporation, because of the limited liability.

S corporation, to gain some tax advantages and also to obtain limited liability.

Money markets are markets for: - U.S. stocks. - Long-term bonds. - Consumer automobile loans. - Short-term debt securities. - Foreign stocks.

Short term debt securities

Which of the following statements is CORRECT? - Bondholders are generally more willing than stockholders to have managers invest in risky projects with high potential returns as opposed to safer projects with lower expected returns. - There is no good reason to expect a firm's bondholders and stockholders to react differently to the types of new asset investments a firm makes. - One disadvantage of operating as a corporation rather than as a partnership is that corporate shareholders are exposed to more personal liability than partners. - Relative to sole proprietorships, corporations generally face fewer regulations, which makes raising capital easier for corporations. - Stockholders are generally more willing than bondholders to have managers invest in risky projects with high potential returns as opposed to safer projects with lower expected returns.

Stockholders are generally more willing than bondholders to have managers invest in risky projects with high potential returns as opposed to safer projects with lower expected returns.