Exam 2

118. A firm has an issue of $1000 par value bonds with a 12 percent stated interest rate outstanding. The issue pays interest annually and has 10 years remaining to its maturity date. If bonds of similar risk are currently earning 8 percent, the firm's bond will sell for ______ today.

$1,268 The value of the bond today = Preset value of coupon (interest) payments + present value of principal = B0 = 120[PVOAIF8%, 10] + 1000[PVIF8%, 10] =1,268

90. The future value of an ordinary annuity of $1,000 each year for 10 years, deposited at 3 percent, is

$11,464 FVOA = PMT x [table 3 @ 3% & 10] = 1,000(11.464) = 11,464

94. Find the future value at the end of year 3 of the following stream of cash flows received at the end of each year, assuming the firm can earn 17 percent on its investments. Year Amount 1 $3,000 2 6,000 3 9,000

$20,127 F = 3,000 (1.17)2 + 6,000(1.17) + 9,000 = 20,127

125. A firm has an outstanding issue of 1,000 shares of preferred stock with a $100 par value and an 8 percent annual dividend. The firm also has 5,000 shares of common stock outstanding. If the stock is cumulative and the board of directors has passed the preferred dividend for the prior two years, how much must the preferred stockholders be paid prior to paying dividends to common stockholders?

$24,000 Preferred dividend = Dividends in arrears + current dividend = {[(100 x .08)2] + (100 x .08)} x 1000 =

120. A firm has an issue of preferred stock outstanding that has a stated annual dividend of $4. The required return on the preferred stock has been estimated to be 16 percent. The value of the preferred stock is _____.

$25

96. The future value of $200 received today and deposited at 8 percent compounded semi annually for three years is

$253 F = 200 (1.04)6 = 253; note that the annual interest is divided by 2 and there are 6 semiannual periods in 3 years.

119. A firm has the balance sheet accounts, common stock (CS), and paid in capital in excess of par (PICEPV), with values of $10,000 and $250,000, respectively. The firm has 10,000 common shares outstanding. If the firm had a par value of $1, the stock originally sold for

$26/share Original stock price = (CS + PICEPV)/number of shares outstanding = 260,000/10,000 = $26

85. To pay for her college education, Gina is saving $2,000 at the beginning of each year for the next eight years in a bank account paying 12 percent interest. How much will Gina have in that account at the end of 8th year?

$27,552 FVAD = PMT x (table three @ 12% & 8)(1.12) = 2,000(12.3) (1.12) = 27,552

93. To pay for her college education, Gina is saving $20,000 at the beginning of each year for the next eight years in a bank account paying 12 percent interest. How much will Gina have in that account at the end of 8th year?

$275,520 FVAD = PMT x [table three (12% & 8) (1.12)] = 20,000(12.3) (1.12) = 275,520

87. The present value of a $20,000 perpetuity at a 7 percent discount rate is

$285,714 Present value of a perpetuity (PVP) = Annuity/ discount rate = 20,000/.07 = $285,714

92. A generous benefactor to the local ballet plans to make a one time endowment which would provide the ballet with $150,000 per year into perpetuity. The rate of interest is expected to be 5 percent for all future time periods. How large must the endowment be?

$3,000,000 PVP = 150,000/.05 = 3,000,000

132. The current price of ABC Corporation stock is $16.50 per share. Earnings next year is expected to be $2 per share and pay $0.60 in dividends. If the P/E multiple is 15 times, on average, ABC's stock price should be?

$30.00 P = (EPS) x (P/E) = 2x15 =30

89. The future value of a $2,000 annuity due deposited at 8 percent compounded annually for each of the next 10 years is

$31,292 FVAD = PMT x [(table three @ 8% & 10) x (1.10)] = 2,000(14.487)(1.08) = 31,292

88. Dan plans to fund his individual retirement account (IRA) with the maximum contribution of $2,000 at the end of each year for the next 10 years. If Dan can earn 10 percent on his contributions, how much will he have at the end of the tenth year?

$31,874 FVOA = PMT x (table three @ 10% & 10) = 2,000(15.937) = 31,874

124. An 8 percent preferred stock with a market price of $100 per share and $90 par value pays a cash dividend of _____.

$7.20

83. Under MACRS, an asset which originally cost $100,000, incurred installation costs of $10,000, and has an estimated salvage value of $25,000, is being depreciated using a 5 year normal recovery period. The cost of the asset that has yet to be depreciated at the end of year 1 is

$88,000 = Original cost + installation cost - accumulated depreciation = [100,000 +10,000] - [(100,000 +10,000)*.2] = 88,000; No salvage value is considered under MACRS

108. The major factor(s) affecting the cost, or interest rate, on a bond is (are) its

A. maturity B. size of the offering C. issuer risk D. basic cost of money

107. All of the following are examples of restrictive debt covenants EXCEPT

A. prohibition on selling accounts receivable B. supplying the creditor with audited financial statements. ******************** C. constraint on subsequent borrowing D. prohibition on entering certain types of lease arrangements

109. The major factors affecting the cost of long term debt include all of the following EXCEPT

A. restrictive covenants **************** B. loan maturity C. loan size D. the basic cost of money.

82. Indicate which of the following is true about annuities.

An annuity due is an equal payment paid or received at the beginning of each period.

86. Indicate which of the following is true about annuities.

An annuity due is an equal payment paid or received at the beginning of each period.

102. A yield curve that reflects relatively similar borrowing costs for both short-term and long-term loans is called

C. flat yield curve

84. Indicate which formula is correct to determine the future value of an annuity due.

FVADs = PMT x [(FVIF) x (1 + i)]

111. ______ allow the holder to purchase a certain number of shares of the firm's common stock at a specified price over a certain period of time and are occasionally part of a debt agreement.

Stock purchase warrants

129. In the Gordon model, the value of the common stock is the

present value of a constant, growing dividend stream

130. According to the efficient market theory,

prices of actively traded stocks do not differ from their true values in an efficient market.

122. The direct sale of a new security issue to one or more purchasers is known as

private placement

98. The ______ rate of interest creates equilibrium between the supply of savings and the demand for investment funds.

real

127. Advantages of issuing common stock versus long term debt include all of the following EXCEPT

the effects of dilution on earnings and voting power.

101. The nominal rate of interest is composed of

the risk free rate plus a risk premium.

128. The _____ is utilized to value preferred stock.

zero-growth model

99. ______ yield curve reflects lower expected future rates of interest.

A downward sloping

112. ______ is secured by real estate.

A mortgage bond

131. If the expected return is above the required return on an asset, rational investors will

buy the asset, which will drive the price up and cause expected return to reach the level of the required return.

110. The ______ feature permits the issuer to repurchase bonds at a stated price prior to maturity.

call

126. The _____ are sometimes referred to as the residual owners of the corporation.

common stockholders

123. Dividends in arrears which must be paid to the preferred stockholders before payment of dividends to common stockholders are

cumulative

91. If the present value of a perpetual income stream is increasing, the discount rate must be

decreasing

95. The rate of interest actually paid or earned annually is called the ______ interest rate.

effective

121. The cost of preferred stock is

higher than the cost of long term debt and lower than the cost of common stock

114. The less certain a cash flow, the ______ the risk, and the ______ the value of the cash flow.

higher; lower

105. The cost of long-term debt generally ______ that of short term debt.

is greater than

103. The theory that explains only the tendency for the yield curve to be upward sloping is

liquidity preference theory

106. If a bond pays $1,000 plus interest at maturity, $1,000 is called the

par value

115. The ______ value of a bond is also called its face value. Bonds which sell at less than face value are priced at a ______, while bonds which sell at greater than face value sell at a ______.

par; discount; premium

97. The rate of return (r) earned on an investment of $50,000 today that guarantees a perpetual income of $10,489 per year is approximately

21% PVP = 50,000 = 10,489/r, solve for r and get 21%

100. Generally, an increase in risk will result in ______ required return or interest rate.

a higher

116. Corporate bonds typically have

a par value of $1000

117. If the required return is less than the coupon rate, a bond will sell at

a premium

104. The legal contract setting forth the terms and provisions of a corporate bond is

an indenture

113. A debenture is

an unsecured bond that only creditworthy firms can issue.