MGT202 HW 3
Jack started his own company and raised $100,000 from an angel investor and issued her 100,000 new shares. The company then totals 200,000 shares. What is Jack and the investor's underlying agreement on the firm value in the round of financing? Answer 1: $100,000 Answer 2: $200,000
$100,000 / 100,000 shares = $1 price per share Firm Value = 200,000 total shares * $1 = $200,000
A bond has a face value of $100 and a conversion ratio of 25. What is a good time to convert to equity for bond holders given the following stock price? $4 $3 $0.3 $5
$5
Which one generally performs better? Answer 1: fallen angels (downgraded to below investment grade bonds) Answer 2: junk bonds (below investment grade when initially issued)
Answer 1: fallen angels (downgraded to below investment grade bonds)
Which of the following is INCORRECT about IPO underwriters? Answer 1: they charge on average a higher spread for large firms than small ones Answer 2: they are typically investment banks like Morgan Stanley Answer 3: they charge a spread on share price as service fee Answer 4: they help IPO firms perform road shows and book building
Answer 1: they charge on average a higher spread for large firms than small ones
Which of the following is right about covenants? requiring the firms to maintain positive earnings is an example of negative covenants. the cost of borrowing for a covenant bond is smaller than that of a bond without any covenants, all else equal restricting the firms from issuing more debt is an example of positive covenants covenants increase risk for the bond investors
the cost of borrowing for a covenant bond is smaller than that of a bond without any covenants, all else equal
Which of the following is NOT a similarity between an IPO underwriter and a real estate agent? they both buy the product from the seller and then sell it to the market they are paid a fraction of what they help sell they need to be hired before the sale happens they have expertise in valuation and marketing
they both buy the product from the seller and then sell it to the market
Which of the following is NOT a main step in going through an IPO? Firm valuation Engaging underwriter(s) Speaking with competitors on how much money to raise Road show
Speaking with competitors on how much money to raise
What is not a step in the IPO procedure? Answer 1: IPO firm engages with underwriters Answer 2: filing prospectus to SEC Answer 3: road shows & book building Answer 4: selling all shares together on the IPO day
selling all shares together on the IPO day
Which of the following is NOT an example of aligning someone's incentive so she makes good efforts in her job? Answer 1: 20% carry for a VC firm's general partners Answer 2: a fixed annual wage for a firm's CFO Answer 3: stock options in a CEO's compensation package Answer 4: a spread (i.e. discount) on share price for an IPO underwriter
Answer 2: a fixed annual wage for a firm's CFO
Which of the following is INCORRECT about bonds? Answer 1: fallen angels refer to the bonds that are initially issued above investment grade but then downgraded below it Answer 2: secured bonds are often backed by physical assets Answer 3: a rating below "A" is called non-investment grade Answer 4: fallen angels generally perform better than junk bonds that initially get rated below investment grade
Answer 3: a rating below "A" is called non-investment grade
Which of the following is NOT a potential explanation for IPO underpricing? Answer 1: underwriters want to price low so they can sell more Answer 2: underpricing helps raise more capital Answer 3: outsiders are only willing to buy it at a discount because they know less about the firm than insiders Answer 4: it looks more attractive to investors
Answer 3: outsiders are only willing to buy it at a discount because they know less about the firm than insiders
Which of the following is NOT an example of bond covenant? Answer 1: requirement to hold a min level of cash Answer 2: requirement to maintain a min level of earnings Answer 3: restriction on issuing new debt Answer 4: restriction on CEO's twitter posts
Answer 4: restriction on CEO's twitter posts
Which of the following is NOT a bond characteristic? Answer 1: secured vs. unsecured Answer 2: callable vs. non-callable Answer 3: investment grade vs. non-investment grade Answer 4: senior vs. subordinated
Answer 4: senior vs. subordinated
Which of the following is NOT a cost of IPO? Answer 1: loss of confidentiality Answer 2: payment to underwriters Answer 3: ownership dilution for existing investors Answer 4: taking advantage of a high market valuation
Answer 4: taking advantage of a high market valuation
5. Which of the following is INCORRECT about covenants? Answer 1: restricting a firm from issuing new bonds is a positive covenant Answer 2: requiring a minimum level of cash is a negative covenant Answer 3: the cost of debt is lower for covenant bonds than non-covenant ones Answer 4: the covenants are established by the issuer rather than the lenders
Answer 4: the covenants are established by the issuer rather than the lenders
Which one is not a "puzzle" that we use to describe IPO? Answer 1: high price surge in the first trading day Answer 2: weak long-term performance Answer 3: strong cycles for the IPO market Answer 4: highly costly yet still widely pursued Answer 5: price discrimination in selling shares
Answer 5: price discrimination in selling shares
Which is NOT an SEO puzzle? Very costly to hire underwriters Negative market reaction on average upon SEO announcements Extreme SEO market cycles Long-run underperformance
Extreme SEO market cycles
Which is NOT a potential explanation for IPO short-term underpricing? High returns on the first trading day attracts investors. Underwriters can unload more shares at a lower price. Due to asymmetric information, firms need to lower price so outside investors are willing to invest. Firms want to raise more capital
Firms want to raise more capital
Which is NOT an IPO puzzle? Huge price spikes in the first couple trading days Extreme IPO market cycles Hiring underwriters to do the job Underperformance in the long run
Hiring underwriters to do the job
Which is CORRECT about information asymmetry and adverse selection? Information asymmetry is the result of adverse selection. In a used car market, if sellers with good cars are unwilling to sell at a large discount, then only bad cars will get sold. This suboptimal outcome is so-called "adverse selection". Due to information asymmetry, market investors interpret firm's SEO announcement positively because they believe insiders consider the firm undervalued. Information asymmetry refers to the situation when buyers have more information on the product than the sellers.
In a used car market, if sellers with good cars are unwilling to sell at a large discount, then only bad cars will get sold. This suboptimal outcome is so-called "adverse selection".
Which of the following is correct about the call provision of a bond? It is beneficial for the firm when interest rate goes up It is less costly for firms to issue It allows the firm to hedge against interest rate risk by buying back the bonds at a price lower than the market value It is more demanded by investors compared with one without a call provision
It allows the firm to hedge against interest rate risk by buying back the bonds at a price lower than the market value
Which of the following is NOT an advantage of private debt over public debt? It is liquid. It has to have interest and principal payments made upon it. It does not dilute the ownership of a firm. It need not be registered with the U.S. Securities and Exchange Commission.
It is liquid.
Which of the following statements regarding the private debt market is FALSE? Private debt has the disadvantage of being illiquid. Bank loans are an example of private debt—debt that is not publicly traded. The public debt market is larger than the private debt market. Private debt has the advantage that it avoids the cost of registration.
The public debt market is larger than the private debt market.
Which is INCORRECT about underwriters? Underwriters usually charge a higher spread for smaller deals 7% is a typical IPO spread charged by underwriters. Underwriters are typically private equity firms that are interested in holding the IPO firm's shares for a long time. Sometimes when the deal is too big, underwriters can team up to share risk.
Underwriters are typically private equity firms that are interested in holding the IPO firm's shares for a long time.
In terms of public offerings of bonds, what is an indenture? a schedule of the fees charged by an underwriting company a formal contract that specifies a firm's obligations to the bondholders a memorandum that must be produced to describe the details of a bond offering a list of the duties of a trust company representing the bondholders' interests
a formal contract that specifies a firm's obligations to the bondholders
Which of the following is not a way to exit one's investment in private equity? secondary buyout auction mergers and acquisitions IPO
auction
Which of the following is WRONG about a syndicated loan? it provides bigger lending capacity banks only do this when they do not have enough money it allows banks to share the risk it allows banks to team up with partners that have expertise on risk assessment
banks only do this when they do not have enough money
A callable bond will typically have a ________ yield than an otherwise identical bond without a call feature because ________. higher, the firm loses flexibility with a callable bond lower, the option to call a bond is valuable lower, the firm loses flexibility with a callable bond higher, the option to call a bond is valuable
higher, the option to call a bond is valuable
Which one of the following is NOT a benefit of IPO? Answer 1: wider scope of investor Answer 2: more publicity Answer 3: lower cost of borrowing Answer 4: more confidentiality
more confidentiality
Which of the following is not a typical private equity investor? mutual funds angel investor large IT firms like Google and Apple venture capital firms
mutual funds
Which one of the following is likely to have the highest returns on average over a 10-year horizon? treasury bills a portfolio of AAA corporate bonds private equity fund index S&P 500 index
private equity fund index
When would it make sense for a firm to call a bond issue? when the market price of the bond is less than the call price, and market interest rates are greater than the bond's coupon rate when the market price of the bond exceeds the call price, and market interest rates are greater than the bond's coupon rate when the market price of the bond is less than the call price, and market interest rates are less than the bond's coupon rate when the market price of the bond exceeds the call price, and market interest rates are less than the bond's coupon rate
when the market price of the bond exceeds the call price, and market interest rates are less than the bond's coupon rate
