Chapter 15, Chapter 17, Chapter 19, Chapter 21, Chapter 20, Chapter 26

Assume the corporate tax rate is 22 percent, the personal tax rate on interest income is 15 percent, and the personal tax rate on dividends is 10 percent. Also assume the firm earns $5 per share in taxable income and pays out 40 percent of its earnings. How much will a shareholder receive per share in aftertax income? Multiple Choice $1.470 $1.782 $1.096 $1.232 $1.404

$1.404 Explanation Aftertax income = $5(.40)(1 − .22)(1 − .10) Aftertax income = $1.404

Chapa Cinemas has 150,000 shares outstanding with a market price per share of $15. Each share is entitled to one right. If the firm sets a rights offer as 5 rights plus $10 for each new share, what will be the ex-rights price per share? Multiple Choice $12.23 $14.17 $15.83 $13.77 $14.49

$14.17 Explanation Ex-rights price = [5($15) + $10]/(5+1) Ex-rights price = $14.17 Divide by N + 1 In this case N=5

Assume it requires 3 rights to obtain a new share in a rights offering. If the stock's price prior to the ex-rights date is $25 and the ex-rights price is $22.75, what is the value of each right? Multiple Choice $.67 $.75 $.56 $1.25 $2.25

$2.25 Explanation Value of one right = $25 − 22.75 Value of one right = $2.25

Cherish Corporation has 8,000 shares of stock outstanding with a par value of $1 per share. The current market value of the firm is $620,000. The balance sheet shows a capital in excess of par account value of $66,000 and retained earnings of $234,000. The company just announced a 3-for-1 stock split. What will be the retained earnings account balance after the split? Multiple Choice $117,000 $234,000 $351,000 $410,000 $468,000

$234,000 Explanation A stock split does not change the total value of the retained earnings account.

Andrew bid $32.50 per share for 500 shares in a Dutch auction for Vargas Resorts shares of stock. The other bids were $33 for 200 shares, $32 for 600 shares, $35 for 100 shares, and $30 for 500 shares. Vargas was seeking to sell 1,000 shares. What price did Andrew pay for each share he purchased? Multiple Choice $33 $32 $35 $30 $32.50

$32 Explanation To sell 1,000 shares, Vargas will need to sell at a price of $32 per share. At $32.50 per share, only 800 shares could be sold. This is because they are cumulative from largest price to lowest so add the shares purchased at each price (highest to lowest) until the cumulative is larger than 1000 or at $1000. 100 (@ $35)+200(@ $33) +600 (@ $32.50) + 500(@32) + = 1, 400 (above 1000) so this choose price $32

Murphy's has shares of stock outstanding with a par value of $1 per share and a market value of $24.60 per share. The balance sheet shows $32,500 in the capital in excess of par account, $12,000 in the common stock account, and $68,700 in the retained earnings account. The firm just announced a stock dividend of 10 percent. What will be the balance in the retained earnings account after the dividend? Multiple Choice $39,180 $48,300 $59,120 $67,520 $40,380

$39,180 Explanation Retained earnings = −[($12,000/$1)(.10)($24.60)] + $68,700 Retained earnings = $39,180

The maximum amount of equity that can be raised through crowdfunding in a 12-month period is: Multiple Choice $1 million. $25 million. $10 million. $50 million. $100 million.

$50 million.

Rachel owns 100 percent of a gift shop with an equity value of $150,000. If she keeps the shop open 5 days a week, EBIT is $75,000. If the shop remains open 6 days a week, EBIT increases to $92,000 annually. Rachel needs an additional $50,000 which she can raise today by either selling stock or issuing debt at an interest rate of 7 percent. The principal amount would be repaid in equal annual payments at the end of the next five years. Ignore taxes. What will be the cash flow for the year to Rachel if she issues debt, remains open 5 days a week, and distributes all the residual cash flow to the shareholders? Multiple Choice $46,125 $61,500 $65,000 $71,500 $67,880

$61,500 Explanation Cash flow to Rachel = $75,000 − .07($50,000) − $10,000 Cash flow to Rachel = $61,500

Garcia & Smith owes $96 to its bondholders for the payment of principal and interest. The company expects to have a cash flow of $224 if the economy continues to be normal, but $88 if the economy enters a recession. If the company ever faces the real possibility of bankruptcy, it will incur legal and other fees of $22. What amount will the bondholders be paid in the case of a recession? Multiple Choice $22 $96 $88 $0 $66

$66 Explanation Bondholder payment = $88 (the amount in a recession) − $22 (the fees) Bondholder payment = $66

Assume a firm has a market value equal to its book value, excess cash of $900, other assets of $16,500, and equity valued at $17,400. The firm has 1,200 shares of stock outstanding and net income of $15,400. If the firm spends all of its excess cash on share repurchases, how many shares will be outstanding after the repurchases are completed? (Round your answer up to the nearest whole share.) Multiple Choice 1,148 shares 1,135 shares 1,138 shares 1,164 shares 1,142 shares

1,138 shares Explanation Price per share = $17,400/1,200 Price per share = $14.50 Number of shares repurchased = $900/$14.50 Number of shares repurchased = 62.07 New number of shares outstanding = 1,200 − 62.07 New number of shares outstanding = 1,137.93, or 1,138

Home Corporation has interest-bearing debt with a market value of $74.3 million. The company also has 1.6 million shares that sell for $37 per share. What is the debt-equity ratio for this company based on market values? (Do not round intermediate calculations and round your answer to 3 decimal places, e.g., 32.161.)

1.255 Explanation: Debt = $74.3 Million Shareholder Equity = 1.6 milllion shares * $37 per share = $59.2 Million Debt to Equity Ratio = Total Debt/ Total Equity = $74.3M / $59.2M = 1.255

Mustin Custom Homes wants to raise $2.4 million in new equity via a rights offering with a subscription price of $12. There are currently 2.6 million shares outstanding, each with one right. How many rights are needed to purchase one new share? Multiple Choice 12 18 20 13 6

13 Explanation 1) Number of new shares = $2,400,000/$12 Number of new shares = 200,000 2) Number of rights needed to obtain one share = 2,600,000/200,000 Number of rights needed to obtain one share = 13 Divide shares outstanding by new number of new shares

There are five seats on the board of directors of Serbone Equity that are up for election. The firm has 320,400 shares of stock outstanding and uses straight voting. Each share is granted one vote for each open seat. How many shares must you control if you want to guarantee your election to the board and no one else votes for you? Multiple Choice 64,000 160,201 53,334 64,001 160,200

160,201 Explanation: Shares needed = .5(320,400) + 1 Shares needed = 160,201

According to White, Altman, and Weiss, the estimated direct cost of financial distress as a percentage of the market value of a firm is: Multiple Choice 3 percent. 5 percent. 8 percent. 1 percent.

3 percent.

Green Shoe options generally last ____ days and benefit ____. Multiple Choice 30; the issuer 30; the underwriting syndicate 60; the underwriting syndicate 60; the issuer 90; both the issuer and the underwriting syndicate

30; the underwriting syndicate

Lupton Farms has 125,000 shares of stock outstanding at a market price of $93 per share. The company has just announced a 5-for-2 stock split. How many shares of stock will be outstanding after the split? Multiple Choice 50,000 75,000 156,250 175,000

312,500 Explanation Number of shares = 125,000(5/2) Number of shares = 312,500

Tangoes has 24,000 shares of stock outstanding with a par value of $1 per share and a market price of $36 per share. How many shares of stock will be outstanding of the firm does a 3-for-2 stock split? Multiple Choice 40,000 shares 36,000 shares 32,000 shares 16,000 shares 28,000 shares

36,000 shares Explanation Number of shares = 24,000(3/2) Number of shares = 36,000 shares

Assume Forrest Corporation debtholders are promised payments in one year of $42 if the firm does well and $18 if the firm does poorly. There is a 50/50 chance of the firm doing well or poorly. If debtholders are willing to pay $28.65 today to purchase this debt, what is the promised return to those debtholders? Multiple Choice 4.7 percent 4.5 percent −4.7 percent 3.8 percent −3.8 percent

4.7 percent Explanation Expected return = [.5($42) + .5($18) −$28.65]/$28.65 Expected return = .047, or 4.7%

In a typical deal, the venture capitalist will receive at least ____ percent of the equity of the financed firm. Multiple Choice 5 20 40 50 75

40

Assume you own 400 shares of Acosta, Incorporated, stock and receive a stock dividend of 6 percent. As a result, the number of shares you own will be _____ shares while your total wealth will increase by ___ percent. Multiple Choice 424; 6 406; 0 424; 0 406; 6 400; 6

424; 0 Explanation New number of shares = 400(1.06) New number of shares = 424 Your total wealth will remain constant as the value per share will decrease by 6 percent. Hence why ZERO for second part of answer

Sinking fund arrangements are least likely to include which one of the following requirements? Multiple Choice Equal payments of principal over the life of the bond A one-time repayment of the entire principal and interest at maturity Sufficient payments over the bonds' life to retire the entire bond issue A deferred provision for the first few years A balloon payment

A one-time repayment of the entire principal and interest at maturity

Fields, Incorporated, has the following book value balance sheet: (see image attached for balance sheet) a. What is the debt-equity ratio based on book values? (Do not round intermediate calculations and round your answer to 3 decimal places, e.g., 32.161.) b.Suppose the market value of the company's debt is $198.5 million and the market value of equity is $665 million. What is the debt-equity ratio based on market values? (Do not round intermediate calculations and round your answer to 3 decimal places, e.g., 32.161.)

A.) 0.995 B.) 0.298 Explanation: Debt Book Value: Debt = $197.00 million Equity $198.00 Million (Capital Surplus+ Common Stock + Acc Retained earnings) Debt to Equity Ratio = 0.995 Based on Market Value Debt= $198.50 million (given in question) Equity= $666 million (given in question) Debt to Equity Ratio = $198.50M/$666M = 0.298

Of the following five U.S. industries, which one tends to have the highest level of debt as a percentage of the market value of debt plus equity? Multiple Choice Electric utilities Airlines Fabric apparel Drugs Steel works

Airlines

Which one of the following actions is a characteristic of a sensible payout policy? Multiple Choice Over the course of time, pay out half of all free cash flows Set the current regular dividend consistent with a 100 percent payout ratio Increase regular dividends to distribute transitory cash flow increases Set the dividends high even if it means acquiring expensive external financing Avoid rejecting positive NPV projects to increase dividends or buyback shares

Avoid rejecting positive NPV projects to increase dividends or buyback shares

Which of the following actions results in a use of cash? Multiple Choice A decrease in a liability only An increase in an asset only An increase in retained earnings only Both an increase in an asset and an increase in retained earnings Both a decrease in a liability and an increase in an asset

Both a decrease in a liability and an increase in an asset

________ grant the issuer the right to extinguish the debt prior to maturity. Multiple Choice Callable bonds Subordinated bonds Put bonds Covenant bonds Debentures

Callable bonds

Which one of the following is not empirically correct? Multiple Choice Some firms use no debt. The capital structure of a firm can vary significantly over time. Capital structures are fairly constant across industries. Debt levels across industries vary widely.

Capital structures are fairly constant across industries.

Which one of the following is not implied by the pecking-order theory? Multiple Choice Profitable firms tend to use less debt than unprofitable firms. Companies like having financial slack. Companies prefer to borrow up to the point where the financial distress costs offset the tax benefit of debt. There is no target debt-equity ratio for a firm. Firms tend to accumulate cash in anticipation of future projects.

Companies prefer to borrow up to the point where the financial distress costs offset the tax benefit of debt.

Bandon Manufacturing intends to issue callable, perpetual bonds with annual coupon payments and a par value of $1,000. The bonds are callable at $1,195. One-year interest rates are 13 percent. There is a 60 percent probability that long-term interest rates one year from today will be 14 percent, and a 40 percent probability that they will be 12 percent. Assume that if interest rates fall the bonds will be called. What coupon rate should the bonds have in order to sell at par value? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Coupon Rate = 12.34% Explanation: Is in the attached image

Which one of the following choices reports dividend events in the correct chronological order, from earliest to latest? Multiple Choice Date of record, declaration date, ex-dividend date Date of record, ex-dividend date, declaration date Declaration date, date of record, ex-dividend date Declaration date, ex-dividend date, date of record Ex-dividend date, date of record, declaration date

Declaration date, ex-dividend date, date of record

A firm has announced that it is willing to repurchase a number of shares at various prices. Shareholders can indicate how many shares they are willing to sell at each of the various prices. This process is called a: Multiple Choice homemade dividend. tender offer. free market sale. Dutch auction. targeted repurchase.

Dutch auction.

Which one of these statements correctly applies to either a leveraged or an unleveraged syndicated loan? Multiple Choice Each bank that participates negotiates the terms for its portion of the overall loan. The loan arranger is not involved with the actual lending. Each bank has its own loan agreement with the borrowers. The loan may not be publicly traded. The loan will always be rated as investment grade.

Each bank has its own loan agreement with the borrowers.

King, Incorporated, has debt outstanding with a face value of $5 million. The value of the firm if it were entirely financed by equity would be $21.2 million. The company also has 365,000 shares of stock outstanding that sell at a price of $46 per share. The corporate tax rate is 25 percent. What is the decrease in the value of the company due to expected bankruptcy costs? (Do not round intermediate calculations and enter your answer in dollars, not millions of dollars, rounded to the nearest whole number, e.g., 1,234,567.) Financial Distress cost?

Financial Distress Cost = $660,000 1) get the value of levered firm Total VL = Value of unlevered firm + (debt outstanding * corporate tax rate) 2) get total firm value total firm value = total equity + total debt = (total shares * share price) + total debt 3) Get the decrease in value of firm due to bankruptcy costs =Total levered firm value - total firm value

Which one of the following statements is true? Multiple Choice Dividends are irrelevant. Shareholders are unable to personally adjust the dividend policy set by a firm. According to Miller and Modigliani, a firm should alter its investment policy whenever a change is made in its dividend policy. Dividend policy is relevant. Firms should never give up a positive NPV project to increase a dividend.

Firms should never give up a positive NPV project to increase a dividend

Bulldog bonds are associated with: Multiple Choice France. Germany. Spain. Morocco. Great Britain.

Great Britain.

What information is in a red herring? Multiple Choice The same information as the final prospectus except for the SEC approval. The same information as the final prospectus. Only a brief synopsis of the final prospectus. Only a description of how the funds raised will be used. Information very similar to the final prospectus but without the selling price.

Information very similar to the final prospectus but without the selling price.

Which one of the following statements is true? Multiple Choice A firm with low anticipated profits will likely take on a high level of debt. A successful firm will probably be all-equity financed. Rational firms raise debt levels when profits are expected to decline. Rational investors are likely to infer a firm is more valuable when its debt level declines. Investors will generally view an increase in debt as a positive sign for the firm's future value.

Investors will generally view an increase in debt as a positive sign for the firm's future value.

Which one of the following statements represents a difference between business entities in Japan and in the United States? Multiple Choice Lenders in Japan frequently also take ownership positions in firms to which they lend. Debt-equity ratios tend to be higher in the U.S. than they are in Japan. There tends to be greater agency issues between stockholders and bondholders in Japan as compared to the U.S. Bondholders in Japan are prohibited from also being shareholders in the same firm. The debt-equity ratios for firms in Japan and in the U.S. tend to be relatively equal.

Lenders in Japan frequently also take ownership positions in firms to which they lend.

Which one of the following is a direct, rather than an indirect, cost of financial distress? Multiple Choice Key employee leaving for another job due to concerns over job security given the company's financial status Loss of a key supplier due to late payments to that supplier Fees paid to financial advisors related to bankruptcy matters Loss of customers due to concerns the company will close Money spent to send a mailing to customers dispelling any and all financial distress concerns about the company

Loss of customers due to concerns the company will close

Which one of the following statements is correct? Multiple Choice In the U.S. economy, dividends are quite insignificant. Over the last few decades, the percentage of U.S. firms paying dividends has increased. The tax law change in May 2003 is cited as one reason why the percentage of dividend payers has decreased in the U.S. Dividends are more tax-advantaged than capital gains as of 2017. Much of the dividend income paid in the U.S. is related to a relatively small number of firms.

Much of the dividend income paid in the U.S. is related to a relatively small number of firms

An election is being held to fill four seats on the board of directors of a firm in which you hold stock. The company has 8,700 shares outstanding. If the election is conducted under cumulative voting and you own 480 shares, how many more shares must you buy to be assured of earning a seat on the board? (Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.)

New Shares to purchase = 1,260 shares In Cumulative voting all the board of directors vote at the same time. This means you will use 1/(N+1) percent of the stock to guarantee an election. N is the number of seats open for election. 1) % of stock needed = 1/(N+1) = 1/(4+1)= 1/5 = 0.20 or 20% 2) Therefore, you now multiply 20% by the shares outstanding, which is 8,700 to get the number of shares required: 8,700 shares* 20% = 1,740 shares 3) Next, we get the additional shares to be purchased by subtracting the shares you own under cumulative voting by the number of shares required: 1,740 shares - 480 shares = 1,260 shares

Of the following statements about preferred stock, which one is correct? Multiple Choice Unlike dividends paid on common stock, dividends paid on preferred stock are a tax-deductible expense. Dividends on preferred stock payable during the next twelve months are considered to be a corporate liability. There is no significant difference in the voting rights granted to preferred and common shareholders. Preferred stock usually has a stated liquidating value of $100 per share. If preferred dividends are non-cumulative, then preferred dividends not paid in a particular year will be carried forward to the next year.

Preferred stock usually has a stated liquidating value of $100 per share.

Which one of the following statements related to debt financing is correct? Multiple Choice Debt issues of any type, unlike equity issues, do not require SEC registration. Commercial banks specialize more in private placements than in term loans. Private placements generally have longer maturities than term loans. The majority of debt issues are public issues. Public debt issues generally have more restrictive covenants than private issues.

Private placements generally have longer maturities than term loans.

Which type of bond grants the bondholder the right to force the bond's issuer to repay the bond at a stated price given that a certain situation(s) occurs? Multiple Choice NoNo bond Cat bond Warrant bond Income bond Put bond

Put bond

Assume personal tax rates are lower than corporate tax rates. From a tax-paying shareholder's point of view, after the firm has funded all positive net present value projects, how should the firm spend its excess cash? Multiple Choice Repurchase shares Acquire another firm Purchase financial assets Increase cash dividends Increase executive compensation

Repurchase shares

Assume you own 1,000 shares of stock in a firm for which four directors' seats are up for election. If you can cast 1,000 votes in each of the four elections, then the firm uses ________ voting. cumulative market share sequential

Straight

Based on the concept of the clientele effect, which one of these combinations correctly aligns an investor group with its preferred type of stocks? Multiple Choice Low-tax-bracket individuals; zero-to-low payout stocks High-tax-bracket individuals; low-to-medium payout stocks Corporations; low-to-medium payout stocks Tax-free institutions; medium-payout stocks High-tax-bracket individuals; high-payout stocks

Tax-free institutions; medium-payout stocks

Which one of the following statements is true concerning a rights offering? Multiple Choice The subscription price is generally greater than the market price. The subscription price must be greater than the ex-rights price. The subscription price is generally less than the market price. The ex-rights price is generally higher than the rights-attached price. The market price tends to increase on the ex-rights date.

The subscription price is generally less than the market price.

Maddux Corporation has an EBIT of $915,000 per year that is expected to continue in perpetuity. The unlevered cost of equity for the company is 12 percent and the corporate tax rate is 24 percent. The company also has a perpetual bond issue outstanding with a market value of $2.5 million. What is the value of the company? (Do not round intermediate calculations and enter your answer in dollars, not millions of dollars, rounded to 2 decimal places, e.g., 1,234,567.89) The CFO of the company informs the company president that the value of the company is $5.6 million. Is the CFO correct?

Value of the company = $6,395,00 Explanation: = [ [ EBIT x (1 - tax rate) ] / unlevered cost of capital ] + Amount of debt x tax rate = [ [ $ 915,000 x 0.76 ] / 0.12 ] + $ 2,500,000 x 24% = $ 5,795,000 + $ 600,000 =$ 6,395,000 Is the CFO correct? NO because the value that was calculated above is different from that that the CFO provided

Financial economists prefer to use market values rather than book values when measuring debt ratios because market values are: Multiple Choice net of taxes. a better reflection of current information. Correct more stable than book values. used by Standard & Poor's to measure credit worthiness. most commonly required by bond covenants.

a better reflection of current information.

Unsecured corporate debt is commonly referred to as: Multiple Choice a debenture. collateralized debt. deferred debt. an indenture. protected debt.

a debenture.

A registration statement is effective on the 20th day after filing unless: Multiple Choice the SEC is backlogged with statements. a tombstone ad is issued indicating its demise. a letter of comment suggesting changes is issued by the SEC. a syndicate can be formed sooner. the issue exceeds $50 million in which case the wait period is 30 days.

a letter of comment suggesting changes is issued by the SEC.

Steinberg Corporation and Dietrich Corporation are identical firms except that Dietrich is more levered. Both companies will remain in business for one more year. The companies' economists agree that the probability of the continuation of the current expansion is 80 percent for the next year and the probability of a recession is 20 percent. If the expansion continues, each firm will generate earnings before interest and taxes (EBIT) of $4.1 million. If a recession occurs, each firm will generate earnings before interest and taxes (EBIT) of $1.5 million. Steinberg's debt obligation requires the firm to pay $950,000 at the end of the year. Dietrich's debt obligation requires the firm to pay $1.6 million at the end of the year. Neither firm pays taxes. Assume a discount rate of 14 percent. a-1. What is the value today of Steinberg's debt and equity? (Do not round intermediate calculations and enter your answers in dollars, not millions of dollars, rounded to the nearest whole number, e.g., 1,234,567.) a-2.What is the value today of Dietrich's debt and equity? (Do not round intermediate calculations and enter your answers in dollars, not millions of dollars, rounded to the nearest whole number, e.g., 1,234,567.) b.Steinberg's CEO recently stated that Steinberg's value should be higher than Dietrich's because the firm has less debt and therefore less bankruptcy risk. Do you agree or disagree with this statement?

a-1. Steinberg equity value = $2,307,018 Explanation: 1) Calculate the payoff to Steinberg's Stockholder in case of Expansion: = (EBIT if Expansion continues) - (Steinberg's Debt obligation) 2) Calculate the PAYOFF to Steinberg's stockholders in cause of a RECESSION: =(EBIT if Recession continues) - (Steinberg's Debt obligation) 3) Next, calculate Stenberg's Equity Value: = (Pay of to Stenberg's Stockholder in case of Expansion*Probability of Expansion + Payoff to Steinberg's stockholder in case of a recession*Probability of recession)/ (1+Discount Rate) a-2. Steinberg debt value = $833,333 Explanation: = (Steinberg's Debt Obligation * Probabiilty of Expanansion)+(Steinberg's Debt obligation * Prob of Recession)/ (1+ Dsicount rate) a-2. Dietrich equity value = $1,754,386 Explanation: 1) Calculate the Payof to Dietric's Stockholder in case of expansion: =EBIT in case of expansion - Dietrich's Debt obligation 2) Calculate the payoff to Dietrich's Stockholder in case of a recession -This will be ZERO as debt obligation is higher than EBIT in recession 3) Calc. Dietrich's Equity Value = (Payoff to Dietrich's stockholder in case of expansion*Prob of expansion) + (Payoff to dietrich's stockholder in case of a recession * prob of a recssion)/ (1+ discount rate) b. Dietrich debt value = $1,385,965 = (Dietroch's debt obligation * prob of expansion) + (EBIT if recession continues * prob of recession)/(1+ discount rate) b. Risk of bankruptcy affects a firm's value = Disagree

Edwards Construction currently has debt outstanding with a market value of $131,000 and a cost of 9 percent. The company has EBIT of $11,790 that is expected to continue in perpetuity. Assume there are no taxes. a-1. What is the value of the company's equity? (Do not round intermediate calculations. Leave no cell blank - be certain to enter "0" wherever required.) a-2.What is the debt-to-value ratio? (Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.) b. What are the equity value and debt-to-value ratio if the company's growth rate is 4 percent? (Do not round intermediate calculations and round your "Debt-to-value" answer to 3 decimal places, e.g., 32.161.) c. What are the equity value and debt-to-value ratio if the company's growth rate is 8 percent? (Do not round intermediate calculations and round your "Debt-to-value" answer to 3 decimal places, e.g., 32.161.)

a-1. Value of equity = 0 Explanation: =EBIT - (debt) * (Cost of debt or interest rate) =11790 - (131000*0.09) =0 a-2. Debt-to-value ratio = 1 Explanation: = debt / debt =131000/131000 =1 b. Equity value = $114,232 Explantion xplanation:(EBIT*(1+growth rate)/(cost of debt or interest rate - growth rate)) - (EBIT/cost of debt or interest rate) = (111790*(1+0.04)/(0.09-0.04))-(131000/0.09) =114,232 b. Debt-to-value = 0.534 Explanation: =debt/(debt+equity value) =131000/(131000+114,232 =0.534 c. Equity value = $1,142,320 Explanation =(EBIT*(1+growth rate)/(cost of debt or interest rate-growth rate) - (EBIT/cost of debt or interest rate) =(11790*(1+0.08)/(0.09-0.08)-(11790/0.09) =1,142,320 c. Debt-to-value = 0.103 Explanation =debt/(debt/equity value) =131000/(131000+1,142,320) =0.103

Overnight Publishing Company (OPC) has $2.8 million in excess cash. The firm plans to use this cash either to retire all of its outstanding debt or to repurchase equity. The firm's debt is held by one institution that is willing to sell it back to OPC for $2.8 million. The institution will not charge OPC any transaction costs. Once OPC becomes an all-equity firm, it will remain unlevered forever. If OPC does not retire the debt, the company will use the $2.8 million in cash to buy back some of its stock on the open market. Repurchasing stock also has no transaction costs. The company will generate $1,330,000 of annual earnings before interest and taxes in perpetuity regardless of its capital structure. The firm immediately pays out all earnings as dividends at the end of each year. OPC is subject to a corporate tax rate of 23 percent and the required rate of return on the firm's unlevered equity is 16 percent. The personal tax rate on interest income is 20 percent and there are no taxes on equity distributions. Assume there are no bankruptcy costs. a. What is the value of OPC if it chooses to retire all of its debt and become an unlevered firm? (Do not round intermediate calculations and enter your answer in dollars, not millions of dollars, rounded to the nearest whole number, e.g., 1,234,567.) b.What is the value of OPC if it decides to repurchase stock instead of retiring its debt? (Hint: Use the equation for the value of a levered firm with personal tax on interest income from Problem 9 in the textbook.) (Do not round intermediate calculations and enter your answer in dollars, not millions of dollars, rounded to the nearest whole number, e.g., 1,234,567.) c.What is the value of OPC if the expected bankruptcy costs have a present value of $550,000? (Do not round intermediate calculations and enter your answers in dollars, not millions of dollars, rounded to the nearest whole number, e.g., 1,234,567.)

a. Company value = $6,400,625 Explanation If the firm removes all of its debt, it will no longer be levered. Therefore it would be an all equity firm which its value is the PRESENT VALUE of the AFTER TAX CASH FLOW to EQUITY HOLDERS Value of unlevered = (EBIT)(1- corporate tax rate)/ rate of return of unlevered equity = (1330000)*(1-0.23)/0.16 =$6,400,625 b. Company value = $6,505,625 Explanation: Recall there are no bankruptcy costs, therefore the following is how you would calculate the value of the levered firm: Value of Levered Firm = Value of Unlevered + {1-[(1- corporate tax rate)/(1-personal tax rate)]}* Excess cash = 6,400,000 + {1-[(1-0.23)/(1-0.20)]} * 2,800,000 = $6,505,625 c. Levered value = $5,955,625 The value of the unlevered firm could never go bankrupt, so therefore the bankruptcy cost could not affect it Value of levered firm = Value of unlevered firm + {1-[(1-corporate tax rate)/(1-personal tax rate)]} * excess cash)- C(B) =6,400,000+{1-[(1-0.23)/(1-0.20)]}*2,800,000)-$550,000 =$5,955,625

Tom Scott is the owner, president, and primary salesperson for Scott Manufacturing. Because of this, the company's profits are driven by the amount of work Tom does. If he works 75 hours each week, the company's EBIT will be $630,000 per year; if he works a 85-hour week, the company's EBIT will be $785,000 per year. The company is currently worth $4 million. The company needs a cash infusion of $2.1 million and can issue equity or issue debt with an interest rate of 10 percent. Assume there are no corporate taxes. a. What are the cash flows to Tom under each scenario? (Do not round intermediate calculations and enter your answers in dollars, not millions of dollars, rounded to the nearest whole number, e.g., 1,234,567.) b. Under which form of financing is Tom likely to work harder?

a. Debt issue and 75-hour week = $420,000 Explanation: 1) get interest = cash infusion needed * interest rate = 2.1M * 0.10 = EBIT minus Interest Rate a. Debt issue and 85-hour week = $575,000 = EBIT minus Interest Rate a. Equity issue and 75-hour week = $413,115 = EBIT minus Interest Rate a. Equity issue and 85-hour week = $514,754 = EBIT minus Interest Rate b. Which form of financing is Tom likely to work harder? Debt issue. The reason for this is because the cashflows will increase with debt issue, so TOM will likely work harder

Good Time Company is a regional chain department store. It will remain in business for one more year. The probability of a boom year is 70 percent and the probability of a recession is 30 percent. It is projected that the company will generate a total cash flow of $187 million in a boom year and $78 million in a recession. The company's required debt payment at the end of the year is $112 million. The market value of the company's outstanding debt is $85 million. The company pays no taxes. a. What payoff do bondholders expect to receive in the event of a recession? (Do not round intermediate calculations and enter your answer in dollars, not millions of dollars, rounded to the nearest whole number, e.g., 1,234,567.) b.What is the promised return on the company's debt? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)c.What is the expected return on the company's debt? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

a. Payoff = $78,000,000 b. Promised return = 31.76% c. Expected return = 19.76%

The shareholders of the Pineapple Company need to elect nine new directors. There are 840,000 shares outstanding currently trading at $44 per share. You would like to serve on the board of directors; unfortunately, no one else will be voting for you. a. How much will it cost you to be certain that you can be elected if the company uses straight voting? (Do not round intermediate calculations and enter your answer in dollars, not millions of dollars, rounded to the nearest whole number, e.g., 1,234,567.) b.How much will it cost you if the company uses cumulative voting? (Do not round intermediate calculations and enter your answer in dollars, not millions of dollars, rounded to the nearest whole number, e.g., 1,234,567.)

a.) Straight voting cost = $18,480,044 b.) cumulative voting cost = $3,696,044 Explanation: a.) (840,00/2+1)*44 = 18,480,044 b.) (840,000*1/(9+1)+1)*44 = 3,696,044

Stock splits are often employed in order to: Multiple Choice adjust the market price of a stock such that it falls within a preferred trading range. decrease the excess cash held by a firm. increase both the number of shares outstanding and the market price per share. increase the total equity of a firm. adjust the debt-equity ratio such that it falls within a preferred range.

adjust the market price of a stock such that it falls within a preferred trading range.

Why might a firm issue different classes of stock? In order to: Multiple Choice reduce the firm's dividend obligation. distinguish the time periods in which the various shares were issued. allow a certain group to maintain ownership control while reducing that group's equity position. fool investors. extract perquisites from one class of shareholders without the other class of shareholders knowing.

allow a certain group to maintain ownership control while reducing that group's equity position.

The MM theory with taxes implies that firms should issue maximum debt. In practice, this does not occur because: Multiple Choice debt is more risky than equity. bankruptcy is a disadvantage to debt. the weighted average cost of capital is inversely related to the debt-equity ratio. the weighted average cost of capital is directly related to the debt-equity ratio. U.S. regulations require the debt-equity ratio of publicly-traded firms to be in the range of .3 to .7.

bankruptcy is a disadvantage to debt.

If a bond has a make-whole call provision, the: Multiple Choice bondholder will receive the face value amount minus any interest paid to date if the bond is called. call premium can be either positive or negative. call price will increase as interest rates decrease. bond's market price will always equal its face value. bondholder will receive the face value amount plus interest if the bond is called.

call price will increase as interest rates decrease.

If an issuer retires a debt issue before its maturity, the amount paid to do so is called the: Multiple Choice par or face amount. sinking fund amount. the discount. amortized payoff. call price.

call price.

There are three directors' seats up for election. If you own 1,000 shares of stock and have been granted a total of 3,000 votes to cast in a single election, then the firm uses the voting procedure referred to as: a.cumulative voting. b. straight voting. c.sequential voting. d.market share voting. e.absolute priority voting

cumulative

The date on which a firm actually distributes a declared dividend is called the: Multiple Choice ex-rights date. ex-dividend date. date of record. date of payment. declaration date.

date of payment.

On the ________ date, the board of directors passes a resolution authorizing payment of a dividend to the shareholders. Multiple Choice ex-rights ex-dividend record payment declaration

declaration

Empirical evidence suggests that upon announcement of a seasoned equity issue, current stock prices generally: Multiple Choice decrease perhaps because the issue reflects management's view the stock is overvalued. remain fairly constant since an efficient market anticipates a new equity issue. decrease perhaps because the issues are associated with positive NPV projects. increase because the market supply is always less than demand. increase because underwriters exercise their Green Shoe option.

decrease perhaps because the issue reflects management's view the stock is overvalued.

Net working capital is defined as the: Multiple Choice current assets of a business. difference between current assets and current liabilities. present value of short-term cash flows. difference between all assets and liabilities.

difference between current assets and current liabilities.

The ________ are the explicit costs, such as legal expenses, associated with corporate default. Multiple Choice debt flotation costs beta conversion costs direct costs of financial distress indirect bankruptcy costs unlevered costs of capital

direct costs of financial distress

A revolving bank line of credit: Multiple Choice may only be offered for periods of one year or less. generally is free of charge until money is actually borrowed. generally requires the borrower to borrow the entire credit line amount at some point in time. allows the borrower to determine the amount of credit to be granted. generally involves a fee charged to the borrower on the unused portion of the revolver.

generally involves a fee charged to the borrower on the unused portion of the revolver.

Among the direct expenses of an IPO are the: Multiple Choice gross spread plus other direct expenses. gross spread and underpricing. abnormal returns and underpricing. Green Shoe option and the abnormal returns. gross spread, Green Shoe option, and other direct expenses.

gross spread plus other direct expenses.

All the following are major requirements needed to qualify for shelf registration except: Multiple Choice having a current rating of investment grade. having outstanding stock with a market value in excess of $150 million. not defaulting on debt in the past three years. having no violations of the Securities Act of 1933 in the past three years. having no violations of the Securities Exchange Act of 1934 in the past three years.

having no violations of the Securities Act of 1933 in the past three years.

The behavioral finance concept of self-control is an argument in favor of: Multiple Choice frequent stock splits. low cash dividends. stock dividends. reverse stock splits. high cash dividends.

high cash dividends

The first public equity issue offered by a company is commonly referred to as a(n): Multiple Choice initial private offering. initial public offering. secondary offering. seasoned new issue. registered issue.

initial public offering.

What is the predominant source of financing for positive NPV projects by U.S. nonfinancial corporations? Multiple Choice Internally generated funds Publicly issued debt Common stock Preferred stock Privately issued debt

internally generated funds

Historically, firms that issued new securities at a price that was above the file price range have: Multiple Choice successfully avoided leaving any significant funds on the table. ended up overpricing their securities by at least 10 percent. left more money on the table than firms that issued within the file price range. ended up with unsold shares even though the final offer price was considered to be fair. left less money on the table than firms that issued at or below the file price range.

left more money on the table than firms that issued within the file price range.

Since 1975, U.S. nonfinancial corporations have tended to have debt-equity ratios that are: Multiple Choice less than 1.0. relatively stable over time. relatively unaffected by stock market movements. averaging in the .8 to .9 range. steadily rising due to the low interest rate environment.

less than 1.0

Assume a firm sells off some of its long-term assets and distributes the proceeds to its owners. The cash payment to the owners is called a(n) Multiple Choice liquidating dividend. regular cash dividend. special dividend. extra cash dividend. share repurchase.

liquidating dividend.

A subordinated debt: Multiple Choice has a higher priority status than secured creditors. is secondary to equity. is treated as an equity security. must give preference to the secured creditors in the event of default. has been issued because the company is in default.

must give preference to the secured creditors in the event of default.

The written agreement between a corporation and its bondholders might contain a prohibition against paying dividends in excess of current earnings. This prohibition is an example of a(n): Multiple Choice put provision. maintenance of security provision. affirmative indenture. collateral restriction. negative covenant.

negative covenant.

Recently, U.S. nonfinancial corporations have been: Multiple Choice issuing new shares of stock in record numbers. net repurchasers of stock. paying off external debt at a record pace. net issuers of stock. primarily relying on external debt.

net repurchasers of stock.

The optimal capital structure: Multiple Choice is identical for all firms in the same industry. will remain constant over time unless the firm makes an acquisition. of a particular firm can change if tax rates change. places more emphasis on the operations of a firm rather than the financing of a firm. is unaffected by changes in the financial markets.

of a particular firm can change if tax rates change.

Ideally, corporations try to create securities that have the tax benefits: Multiple Choice and bankruptcy benefits of equity. of debt but the bankruptcy benefits of equity. and bankruptcy benefits of debt. of debt and the equity benefits of dividends. of equity but the bankruptcy benefits of debt.

of debt but the bankruptcy benefits of equity.

The optimal capital structure has been achieved when the: Multiple Choice debt-equity ratio is equal to 1. weight of equity is equal to the weight of debt. cost of equity is maximized given a pretax cost of debt. debt-equity ratio is such that the cost of debt exceeds the cost of equity. present value of the financial distress costs equals the present value of the tax shield on debt.

present value of the financial distress costs equals the present value of the tax shield on debt.

A ________ grants authority to someone other than the shareholder to vote shares of stock. Multiple Choice power-of-share authorization general right of execution share authority grant (SAG) restricted conveyance proxy

proxy

A ________ is when a group other than the current management team solicits the authority to vote shares as part of an effort to replace the current management team. Multiple Choice vote of confidence stockholder derivative action proxy fight tender offer seniority turnover

proxy fight

Rhino Moving is paying a dividend of $.86 per share today. There are 164,000 shares outstanding with a par value of $1 per share. As a result of this dividend, the firm's: Multiple Choice retained earnings will decrease by $141,040. retained earnings will decrease by $164,000. common stock account will decrease by $164,000. common stock account will decrease by $141,040. capital in excess of par value account will decrease by $141,040.

retained earnings will decrease by $141,040. Explanation: Decrease in retained earnings = $.86(164,000) Decrease in retained earnings = $141,040

Suppose a potential bondholder requires that the indenture agreement include a limit on dividend distributions by the bond's issuer and also a restriction on the sale of the issuer's assets. In this case, the bondholder is most likely concerned about: Multiple Choice shareholder claims being diluted. shareholders claiming all of the residual profits of the firm. increasing interest rates. shareholders transferring the firm's assets to themselves. shareholders earning a higher return on their investment in the firm than the bondholders earn on their debt.

shareholders transferring the firm's assets to themselves.

Art Prints stock is currently trading for $114 per share. The firm's management believes that the firm's primary clientele can afford to spend between $1,800 and $2,000 to purchase a round lot of 100 shares. The firm should consider a: Multiple Choice reverse stock split. liquidating dividend. stock dividend. stock split. special dividend.

stock split.

An indirect cost of bankruptcy is the effect that a potential bankruptcy has on the firm's decisions. The general result is that: Multiple Choice the firm will rank all projects and select the project which results in the highest expected firm value. bondholders expropriate value from stockholders by selecting high-risk projects. stockholders expropriate value from bondholders by selecting high-risk projects. the firm will always select the lowest-risk project available. the firm will select only all-equity financed projects.

stockholders expropriate value from bondholders by selecting high-risk projects.

Ignore financial distress costs. When (1 − TC) × (1 − TS) = (1 − TB), then firms: Multiple Choice should be all-equity financed. need to maintain a debt-equity ratio of .5. tend to be indifferent between issuing debt or issuing equity. discover that both dividends and interest payments are non-deductible business expenses. can reduce their taxes by increasing their dividend payouts.

tend to be indifferent between issuing debt or issuing equity.

A classified board is one which has: Multiple Choice both employee and non-employee directors directors that have been assigned differing numbers of votes per seat. terms that expire at different times. directors elected solely by one class of shareholders. representation from various classes of stock

terms that expire at different times.

Dilution generally refers to the: Multiple Choice increase in stock value due to wider ownership of stock. the decrease in existing shareholders' ownership percentage when new equity is issued. loss in new shareholders' equity. splitting of a single share of stock into multiple shares. issuance of debt to repurchase shares.

the decrease in existing shareholders' ownership percentage when new equity is issued.

Issuing new debt instead of new equity in a closely held firm is most apt to cause: Multiple Choice the owner-manager to work less hard and shirk duties. the owner-manager to consume more perquisites because the cost is passed to the debtholders. both more shirking and perquisite consumption since the government provides a tax shield on debt. agency costs to fall as owner-managers do not need to worry about other shareholders. the owner-manager to reduce shirking and perquisite consumption.

the owner-manager to reduce shirking and perquisite consumption.

Arguments offered as explanations, with or without market evidence, as to why most U.S. equity issues are sold without rights include all the following except: Multiple Choice underwriters buy at an agreed upon price and bear some risk of selling the issue. cash proceeds are available sooner in underwriting and the issue is available to a wider market. underwriters certify that the offering price is consistent with the true value of the issue. the underwritten offer price is generally set 48 hours prior to the offering while the rights price must be set much further in advance. underwriters tend to increase the stock price through their sales efforts.

the underwritten offer price is generally set 48 hours prior to the offering while the rights price must be set much further in advance.

The term financial deficit is defined as the: Multiple Choice amount of cash flow that must be funded internally. uses of cash flow minus the cash flow available from internal sources. loss realized on bonds that are sold for less than their purchase price. total amount of cash flow required from all sources to meet the needs of the uses of cash. amount needed to fund all interest payments on currently outstanding debt.

uses of cash flow minus the cash flow available from internal sources.

The value of a firm is maximized when the: Multiple Choice cost of equity is maximized. tax rate is zero. levered cost of capital is maximized. weighted average cost of capital is minimized. debt-equity ratio is minimized.

weighted average cost of capital is minimized.

Bonds with attached warrants are frequently issued: Multiple Choice at a greatly discounted price. with very low coupons. with an attached share of preferred stock. with a share purchase price set equal to the market price at time of share purchase. with an attached share of common stock.

with very low coupons.

Assume there are three upcoming IPOs (A, B, and C) that are priced at $20 per share. You place an order with your broker to purchase 500 shares of each of the three offerings. Further assume that A is oversubscribed and your allocation is only 100 shares. You receive a full allocation on both B and C. Offer A is undervalued by $13, B is overvalued by $8, and C is overvalued by $1. What will be your combined total profit or loss on these three investments? Multiple Choice −$3,200 −$1,125 $2,000 $1,125 $3,200

−$3,200 Explanation Total profit = 100($13) + 500(−$8) + 500(−$1) Total profit = −$3,200

Hayley placed an order for 300 shares of each of four separate IPOs (Orders A, B, C, and D) with an offer price of $16 each. She received 100 shares of Order B, 200 shares of Order D, and 300 shares of the other orders. At the end of the first day, Order A was overpriced by $2 per share, Order B was underpriced by $4 per share, Order C was correctly priced, and Order D was overpriced by $1 per share. What was combined total profit or loss for the first day on these four orders? Multiple Choice −$400 $400 $100 −$100 −$300

−$400 Explanation Total profit = 300(−$2) + 100($4) + 300($0) + 200(−$1) Total profit = −$400 Underprices is a neg value overpriced is a pos value and correct price is equal to ZERO. SEE ABOVE EQUATION