WSU MBA 5300
Wilson bought 225 shares of stock in Krit Corp. The stock price of Krit Corp. is currently trading at $30.00 per share.
$6,750.00 225 x 30 = 6,750.00
Identify the capital transfer given in the scenario with its appropriate classification:
......
Everyone uses money, and it is important to understand what factors affect the cost of money. Consider the following scenario:
A friend comes to you and asks you to invest in his business instead of investing in Treasury bonds. You think he has a good business model, so you tell him you are willing to invest as long as the expected return on the investment is at least four times the return you would have received on the Treasury bonds.
Issued by a nonfinancial firm, these financial instruments are guaranteed by a bank. There is less risk involved because of bank backing.
Bankers' acceptances
Apart from risk components, several macroeconomic factors—such as Federal Reserve (the Fed) policy, federal budget deficit or surplus, international factors, and levels of business activity—influence interest rates.
Based on your understanding of the impact of macroeconomic factors, identify which of the following statements are true or false:
All financial transactions that are highly liquid and have a short-term (less than one year) maturity are traded in money markets. Examples include U.S. Treasury bills and short-term securities sold by the U.S. Treasury to finance federal expenditures. All financial transactions with maturities of more than one year are traded in the capital markets. These include stocks, bonds, insurance, leases, and mortgages.
Capital vs Money Markets
Businesses in the form of corporations offer their owners several advantages, but the benefits come at a price. For instance, corporations are required to create a charter, set bylaws, and file mandatory reports with state and federal authorities, which can get expensive and time consuming. The filing document, which requires the company to state: (1) the name of the proposed corporation, (2) types of activities the company will be involved in, (3) amount of capital stock, (4) number of directors, and (5) names and addresses of the directors, is called the corporate ___.
Charter
Businesses can be classified into the following forms: a proprietorship, a partnership, a corporation, a limited liability company (LLC), and a limited liability partnership (LLP). Different forms of businesses have different characteristics. Which of the following characteristics would apply to a corporation? Check all that apply.
Chartered by a state and is its own entity separate from its owners Owners have limited liability Has unlimited life Easier to transfer ownership in the form of stock
They accept deposits from savers and make loans to people who need it. They provide various services, such as checking accounts and money market transactions, to facilitate capital exchange between savers and people who need it.
Commercial banks
A filing document, which includes rules made by the founders of a corporation like the directors election process, terms of the positions, stockholder rules, & procedures to amend the bylaws, etc. What is this document called?
Corporate Bylaws
Caesar, the CEO of a beverage company, is required to certify the accuracy of information provided in the company's quarterly reports.
Corporation
Rock Inc. is a mineral mining company. The CEO of Rock Inc. recently died. The news led to a short-term decline in the company's stock price, but it bounced back after the company announced its quarterly earnings.
Corporation
Analysts and theorists have debated over the different factors that caused the subprime mortgage meltdown. According to your understanding of the crisis, which of the following factors led to the financial crisis? Check all that apply.
Credit default swaps claimed to insure CDOs (collateralized debt obligations) Mortages brokers did not verify borrowers carefully The Fed kept interest rates low to encourage home ownership Regulations were relaxed, leading to nonqualifying mortgages getting approved for loans. Real estate appraisers and rating agencies were lax. Mortgages were accessible for borrowers who did not meet income and minimum down payment requirements. Moreover, the Fed kept interest rates really low to prevent a recession. This led to a decrease in the demand for homes and a further decline in housing prices.
___ typically have specified payments and a specified maturity. For example, an Alcoa bond might promise to pay 10% interest for 30 years, at which time it promises to make a $1,000 principal payment. If debt matures in more than a year, it is called a ___ Thus, the Alcoa bond in this example is a capital market security.
Debt instruments capital market security.
Entrepreneurs often start businesses by seeking financial help from family and friends.
Direct Transfers
Everyone uses money, and it is important to understand what factors affect the cost of money. Consider the following scenario:
Due to recent political and economic events, general prices of goods and services are expected to increase significantly over the next five years. You were about to purchase a five-year bond. You now require a higher return on the bond than you did before you found out about these expected price increases.
In a state of market equilibrium, the intrinsic value of the stock will be ___ the market price of the stock.
Equal to
___ are a claim upon a residual value. For example, Alcoa's stockholders are entitled to the cash flows generated by Alcoa after its bondholders, creditors, and other claimants have been satisfied.
Equity instruments
When the economy is weakening, the Fed is likely to increase short-term interest rates.
False
___ deal with stocks, bonds, notes, mortgages, derivatives, and other financial instruments.
Financial asset markets
___ are markets where assets are being bought or for delivery at some future date, such as 6 months or a year into the future.
Futures markets
Businesses can be classified into the following forms: a proprietorship, a partnership, a corporation, a limited liability company (LLC), and a limited liability partnership (LLP). Different forms of businesses have different characteristics. Which of the following characteristics would apply to a limited liability company and a limited liability partnership? Check all that apply.
Have corporate ownership structure Owners have limited liability and right to vote Limited financial liability Taxed as a partnership
With the use of advanced investment techniques, these largely unregulated portfolios are invested in securities. The investment objective is to offset potential losses by investing in counterbalancing securities. They are open to only a select class of investors.
Hedge Funds
Several market participants interact in developed markets to organize the exchange of funds from buyers to sellers. Such institutions as investment banks, commercial banks, financial services corporations, credit unions, pension funds, life insurance companies, mutual funds, exchange traded funds, hedge funds, and private equity companies play a key role in facilitating these transfers.
Identify the financial institution based on each description given in the following table:
Financial instruments are assets that have a monetary value or record a monetary transaction. To coordinate the exchange of capital between borrowers and lenders, financial instruments trade in the financial markets. These financial instruments can be categorized on the basis of their issuers, maturity, risk, and other factors.
Identify the financial instruments based on the following descriptions. in the following questions
California Public Employees' Retirement System (CalPERS) manages pension and health benefits of California public employees and retirees. CalPERS collects money from its participants and creates a pool of assets. It manages these assets by making investments across domestic and international markets.
Indirect Transfers through Financial Intermediaries
W2 Corp. needs capital to finance a new product line. It borrows money in the form of long-term bonds underwritten by an investment bank.
Indirect Transfers through Investment Banks
Determine which of these fundamental factors is affecting the cost of money in the scenario described:
Inflation
Based on your understanding of the factors that affect the cost of money, identify which of the following statements is true:
Interest is the price paid to borrow funds.
When determining the value of a firm, which of the following statements is true?
Investors are risk averse. Other things being equal, they prefer to pay more for stocks that are less risky and that have relatively more certain cash flows than other stocks
Chris, Brandon, and Jose own an accounting firm in San Francisco. All share in the profits of the firm proportionately and file taxes at an individual level. According to their agreement, none of the owners will be held personally liable for the accounting firm's debt.
Limited liability partnership/corporation
Paradigm Media is a company run by a group of new media professionals. The owners of the company do not have any personal liability and file taxes based on individual income.
Limited liability partnership/corporation
These financial instruments are investment pools that buy such short-term debt instruments as Treasury bills (T-bills), certificates of deposit (CDs), and commercial paper. They can be easily liquidated.
Money market mutual funds
One of the most discussed topics in finance recently is the global economic crisis that is said to have begun in the 2000s. Your professor instructed your team to write an article for the college newspaper. Your friend has written the first draft of the article, which captures the essence of the global economic crisis. She has left some important points for you to review and has asked you to check the summary.
Mortgage originators issued mortgages to home buyers and sold these mortgages to securitizing firms. These firms bundled these mortgages into pools and created securities that were backed by the mortgage payments. A portion of these pools were called tranches. Groups of tranches were further combined and then divided again into more complex securities called collateralized debt obligations (CDOs). These securities were redivided and recombined to create even more complex securities called CDOs-squared. This process had important implications: (1) The total risk embedded in the mortgages did not change; (2) since the risk was spread amongst several CDOs, it was difficult to assess the risk in each CDO; and (3) during the process of securitization and resecuritization, financial institutions earned fees and were thus encouraged to continue this process. These securities were sold to investors across the world. If all went well, home buyers would make their payments and investors would earn their returns. However, a series of mortgage defaults led to the meltdown. Investors who were the indirect lenders to the home buyers didn't receive the expected cash flows, and on top of that, financial institutions skimmed fees during the process.
Company A issued its first public offering this year. The demand for the initial public offering (IPO) of the securities was less than the number of securities issued. Was this IPO oversubscribed?
No
Managers strive to increase the value of a firm. An increase in the intrinsic value of the firm's stocks is a good measure of the increase in the value of the firm. Intrinsic value of a firm's stock price is determined by calculating the present values of its free cash flows (FCF) discounted at a rate called the weighted average cost of capital (WACC). Tyler is a team member in Corporate Finance at a digital-content production company. He is required to forecast the free cash flows that the company will be able to generate in the next three years. Tyler takes into account only the following equation in his calculation: FCF=Sales Revenues - Operating Costs - Operating Taxes Will his calculation be an appropriate estimate of the FCF? Why or why not? Check all that apply.
No. Because his calculation fails to include the value of the debt that the firm carries on its balance sheet Because his calculation fails to include the costs of the firm's interest and dividend payments Because his calculation fails to include both the working capital and capital expenditures necessary to sustain the company's operations
The primary objective of the corporate management team is to maximize shareholder wealth. The company's board of directors and the shareholders evaluate and review managerial actions based on the growth in the value of the firm. Based on your understanding of what determines a firm's value, review the following: What does the value of a firm depend on? Option A: The firm's ability to generate positive cash flows now and in the future Option B: The firm's past ability to generate positive cash flows
Option A: The firm's ability to generate positive cash flows now and in the future
An analyst with a leading investment bank tracks the stock of Mandalays Inc. According to her estimations, the value of Mandalays Inc.'s stock should be $37.32 per share, but Mandalays Inc.'s stock is trading at $45.59 per share on the New York Stock Exchange (NYSE). Considering the analyst's expectations, the stock is currently:
Overvalued
Brandon and his friend Shirley run a carpet cleaning business. They distribute the profits proportionately and file their individual taxes.
Partnership
Purple consulting has 5 consultants in the firm. The company's annual revenue is around 500k. Income is distributed among all consultants and each is personally liable for claims if the company goes under. What type of business is this?
Partnership
They are established by an employer to facilitate and organize employee retirement funds. They are asset pools that invest in securities that have a potential to give stable returns.
Pension funds
___, also called "tangible" or "real" asset markets, are those for such products as wheat, autos, real estate, computers, and machinery.
Physical Asset Markets
You go to an auto dealer and buy a new car. You drive the car home immediately after making the payment.
Physical asset markets
Issued by corporations, these financial instruments give their holders a class ownership in a company. They are riskier than bonds but less risky than the general class of ownership.
Preferred stocks
Which of the following instruments are traded in the capital markets? Check all that apply.
Preferred stocks Common stocks
Transactions between the first buyer of securities and the issuer of securities take place in the primary markets. Because securities are being traded between two investors without involving the issuer, the trade occurs in the secondary market.
Primary vs. Secondary Markets
Richard founded and operated a wedding planning agency, which specialized in celebrity weddings. When he died, his business was dissolved because there was no plan for control after his death.
Proprietorship
Ryan started a tutoring website. After a few months, a publishing company filed a lawsuit against his company for copyright infringement. Ryan had to shut down his business and lost all his personal assets in the process. What type of business is this?
Proprietorship
Determine which of these fundamental factors is affecting the cost of money in the scenario described:
Risk
An investor holding 3,000 shares of stock of Strata Corp. sells them to another investor.
Secondary Market
Which statements belong in the summary? Check all that apply.
Securitizing companies, such as Merrill Lynch, Bear Stearns, and Lehman Brothers, were making money on the volumes of mortgage pools that they were securitizing. This encouraged originators to issue more mortgages and increase the total value of the mortgages. The total amount of risk embedded in the securities created by bundling mortgages did not change. The securitization and resecuritization processes led to a distribution of total risk among different types of collateralized securities. Investors across the globe were buying mortgage-backed securities for the rate of return that these securities were generating. Most of these investors chose to be ignorant of the risks involved in such investments. Mortgage payments based on short-term interest rates—called adjustable-rate mortgages (ARMs)—were preferred by subprime borrowers. From a borrower's perspective, adjustable-rate mortgages (ARMs) are considered riskier than traditional fixed-rate mortgages, because mortgage payments might increase without an increase in income.
Roberto recently started a new business with money that he collected from his friends and family. All other factors being equal, which of the following financing options has a higher cost for someone who needs capital to start a business?
Sheila expects to earn a return of 10% on her investment in Roberto's business for the next two years, but restricts Roberto to not finance his business with debt beyond 40% of the total capital needed. An increase in debt financing leads to an increase in the riskiness of the firm. In this case, Sheila is expecting a higher return if Roberto uses 60% debt to finance his business. As the amount of debt increases, risk increases. An investor seeks a higher rate of return when the riskiness of an investment increases.
An investor buys $10,000 worth of gold at a certain price today.
Spot markets
___ are markets where assets are being bought or sold for "on-the-spot" delivery (literally, within a few days).
Spot markets
Spot markets, also called cash markets, handle transactions that come into effect immediately and when contractual fulfillments are executed completely. The investor agrees to buy gold at a certain price today (called the spot price), so this is a spot market transaction. Transactions in the futures markets involve contracts in which the participants agree to buy or sell assets at a certain price at a future date.
Spot vs Future Markets
When determining the value of a firm, which of the following statements is true? The timing of cash flows a firm can generate is irrelevant in determining the value of a firm. The timing of cash flows a firm can generate is very important in determining the value of a firm. All else being equal, cash received later is better. The timing of cash flows a firm can generate is very important in determining the value of a firm. All else being equal, cash received sooner is better.
The timing of cash flows a firm can generate is very important in determining the value of a firm. All else being equal, cash received sooner is better.
Companies and investors access international markets to generate external funding as well as to tap investment opportunities overseas. Suppose you're an investor. You put $1,000,000 in the Indian equity market by buying shares in the Indian market, and your investment value is converted into Indian rupees to buy those shares. The exchange rate at the time of your investment is Rs. 45 per U.S. dollar. You are aware of the risks involved at the time of investment. Keeping other factors constant, which of the following statements describes the risk involved with investing in the international market?
The value of your investment will decrease if stock values fall in the local market.
Companies and investors access international markets to generate external funding as well as to tap investment opportunities overseas. Your portfolio has a total international exposure of $1,000,000, but you also face certain risks. Keeping other factors constant, which of the following statements describes the risk involved with investing in the international market?
The value of your investment will increase if the foreign stocks increase in their local markets.
Determine which of these fundamental factors is affecting the cost of money in the scenario described:
Time preferences for consumption
Countries with strong balance sheets and declining budget deficits tend to have lower interest rates.
True
The changes in the value of a foreign currency affect business operations and the value of investment assets in that currency. If the value of the foreign currency increases relative to the home currency, invested assets would lose value.
True
When the Fed increases the money supply, short-term interest rates tend to decline.
True
When the economy is weakening, the Fed is likely to decrease short-term interest rates.
True
Backed by the U.S. government, these financial instruments are fixed-rate debt securities with a maturity of more than one year. They are considered default free but are subject to interest rate risk.
U.S. Treasury notes and bonds. -Maturity>1 year -fixed-rate debt securities -considered default free -subject to interest rate risk
Financial markets across economies involve various kinds of participants and trade various types of assets and securities. It is important to understand the kinds of markets in which financial transactions take place.
You are preparing to take an exam in your finance class, and you've been making flash cards on different markets and transactions. Indicate the markets in which each of the following transactions will be traded:
Everyone uses money, and it is important to understand what factors affect the cost of money. Consider the following scenario:
Your accountant has convinced you that you should invest your bonus from this year into your retirement account—instead of buying a new sports car—because of the high expected return on the investment.
Randall and Arts Inc. recently raised capital through an initial public offering (IPO). Its stock can now be purchased on the NYSE. This company is referred to as:
a publicly owned corporation.
To raise external funding, many publicly owned corporations decide to sell additional shares of the company's stock in the primary markets. Such an offering is referred to as ___.
a seasoned equity offering
The ___ involves the transfer of capital among different entities that include individuals, small businesses, banks, financial intermediaries, companies, mutual funds, and other market participants. In a developed market economy, capital flows freely between entities that want to supply capital to those who want it. This flow of capital can be classified in three ways.
capital allocation process
The intrinsic value of a company's stock, or the stock's ___, refers to the stock's true value based on expected future cash flows and the risks involved. The value perceived by stock market investors determines the market price of a stock.
fundamental value
Abbey allocates 80% of his portfolio for investments in short-term U.S. Treasury bills.
money market
If the debt matures in less than a year, it is a ___. For example, Home Depot might expect to receive $300,000 in 75 days, but it needs cash now. Home Depot might issue commercial paper, which is essentially an IOU. In this example, Home Depot might agree to pay $300,000 in 75 days in exchange for $297,000 today. Thus, commercial paper is a money market security.
money market security
When the demand for an initial public offering (IPO) of securities exceeds the number of securities issued, the offering is deemed to be:
oversubscribed
The owners of a corporation are ___. The primary objective of the corporate management team is to ___ by ___ over the long run.
the shareholders of the company maximize the shareholders' wealth maximizing the fundamental price of the company's common stock
A stock trading at a price below its intrinsic value is considered to be ___. A stock trading at a price above its intrinsic value is considered to be ___.
undervalued overvalued