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fundamentals of corporate finance

Questions and Answers of Fundamentals Of Corporate Finance

7. Security and Seniority (S25.1)a. As a senior bondholder, would you like the company to issue more junior debt to finance its investment program, would you prefer it not to do so, or would you not
8. Security and Seniority (S25.1) Proctor Power has fixed assets worth $200 million and net working capital worth $100 million. It is financed partly by equity and partly by three issues of debt.
9. Security and Seniority (S25.1) Elixir Corporation has just filed for bankruptcy. Elixir is a holding company whose assets consist of real estate worth $80 million and 100% of the equity of its two
10. Security and Seniority (S25.1)a. Residential mortgages may stipulate either a fixed rate or a variable rate. As a borrower, what considerations might cause you to prefer one rather than the
11. Sinking funds (S25.1) For each of the following sinking funds, state whether the fund increases or decreases the value of the bond at the time of issue (or whether it is impossible to say):a. An
12. Call provisions (S25.1)a. Look at Table 25.1. Suppose that AMAT decides to call the bond one year before it is due to expire. The interest rate on one-year Treasury bonds is 2%. What price must
13. Covenants (S25.1) Alpha Corp. is prohibited from issuing more senior debt unless net tangible assets exceed 200% of senior debt. Currently, the company has outstanding $100 million of senior debt
14. Covenants (S25.1) Explain carefully why bond indentures may place limitations on the following actions:a. Sale of the company’s assets.b. Payment of dividends to shareholders.c. Issue of
15. Private placements (S25.1) Explain the three principal ways in which the terms of private placement bonds commonly differ from those of public issues.
16. Convertible bonds (S25.2) True or false?a. Convertible bonds are usually senior claims on the firm.b. The higher the conversion ratio, the more valuable the convertible.c. The higher the
17. Convertible bonds (S25.2) Maple Aircraft has issued a 4¾% convertible subordinated debenture due 2023. The conversion price is $47.00 and the debenture is callable at 102.75%of face value. The
18. Convertible bonds (S25.2) The Surplus Value Company had $10 million (face value) of convertible bonds outstanding in 2020. Each bond has the following features.Face value $1,000 Conversion price
19. Convertible bonds (S25.2) Sweeney Pies has issued a zero-coupon 10-year bond that can be converted into 10 Sweeney shares. Comparable straight bonds are yielding 8%. Sweeney stock is priced at
20. Convertible bonds (S25.2) Iota Microsystems’ 10% convertible is about to mature. The conversion ratio is 27.a. What is the conversion price?b. The stock price is $47. What is the conversion
21. Convertible bonds (S25.2) Zenco Inc. is financed by 3 million shares of common stock and by $5 million face value of 8% convertible debt maturing in 2029. Each bond has a face value of $1,000 and
22. Convertible bonds (S25.2) Look back at Tesla’s convertible bond that was described in Section 25-2. Use the Black—Scholes app from Chapter 22 to provide an estimate of the value of the
23. Bank loans (S25.3) Match each of the following terms with one of the definitions below.A. Revolving credit B. Bridge loan C. Term loan D. Syndicated loan E. Commitment fee F. Maintenance
24. Bank loans (S25.3) Suppose that you are a banker responsible for approving corporate loans.Nine firms are seeking secured loans. They offer the following assets as collateral. Which of these
25. Bank loans, commercial paper, and medium-term notes (S25.3–S25.4) Complete the passage below by selecting the most appropriate terms from the following list:floating lien, revolving credit,
26. Bank loans, commercial paper, and medium-term notes (S25.3–S25.4) Term loans usually require firms to pay a fluctuating interest rate. For example, the interest rate may be set at 1% over SOFR.
27. Bond repurchase (S25.1) Dorlcote Milling has outstanding a $1 million 3% mortgage bond maturing in 10 years. The coupon on any new debt issued by the company is 10%. The finance director, Mr.
28. Convertible bonds (S25.2) This question illustrates that when there is scope for the firm to vary its risk, lenders may be more prepared to lend if they are offered a piece of the action through
29. Convertible bonds (S25.2) Occasionally, it is said that issuing convertible bonds is better than issuing stock when the firm’s shares are undervalued. Suppose that the financial manager of the
2. Look back at the Sarulla project. There were many other ways that the project could have been financed. For example, PLN could have invested in the power plant and hired a consortium to run it.
1. Types of lease (S26.1) The following terms are often used to describe leases:a. Directb. Full-servicec. Operatingd. Financiale. Netf. Leveraged g. Sale and lease-back
Match one or more of these terms with each of the following statements:A. The initial lease period is shorter than the economic life of the asset.B. The initial lease period is long enough for the
2. Reasons for leasing (S26.2) Some of the following reasons for leasing are rational. Others are irrational or assume imperfect or inefficient capital markets. Which of the following reasons are the
3. Lease treatment in bankruptcy (S26.2) What happens if a bankrupt lessee affirms the lease? What happens if the lease is rejected?
4. Lease treatment in bankruptcy (S26.2) How does the position of an equipment lessor differ from the position of a secured lender when a firm falls into bankruptcy? Assume that the secured loan
5. Operating leases (S26.3) Explain why the following statements are true:a. In a competitive leasing market, the annual operating lease payment equals the lessor’s equivalent annual cost.b.
6. Operating leases (S26.3) Acme has branched out to rentals of office furniture to start-up companies. Consider a $3,000 desk. Desks last for six years and can be depreciated immediately.What is the
7. Inflation and operating leases (S26.3) In Problem 6, we assumed identical lease rates for old and new desks.a. How does the initial break-even lease rate change if the expected inflation rate is
8. Technological change and operating leases (S26.3) Look at Table 26.1. How would the initial break-even operating lease rate change if rapid technological change in limo manufacturing reduces the
9. Valuing financial leases (S26.4) Look again at Problem 6. Suppose a blue-chip company requests a six-year financial lease for a $3,000 desk. The company has just issued five-year notes at an
10. Valuing financial leases (S26.4) Suppose that National Waferonics has before it a proposal for a four-year financial lease. The firm constructs a table like Table 26.2. The bottom line of its
11. Valuing Financial Leases (S26.4) Look again at the National Waferonics lease in Problem
10. Suppose that National Waferonics is highly levered and is unable to deduct further interest payments for tax.a. Does this make a lease more or less attractive?b. Recalculate the NPV of the lease
12. Valuing financial leases (S26.4) Look again at the bus lease described in Table 26.2.a. What is the value of the lease if Greymare’s marginal tax rate is Tc = 0.30?b. What would the lease value
13. Valuing financial leases (S26.4) In Section 26-4, we showed that the lease offered to Greymare Bus Lines had a positive NPV of $4,930 if Greymare paid no tax and an NPV of + $660 to a lessor
14. Valuing financial leases (S26.4) In Section 26-5, we stated that if the interest rate were zero, there would be no advantage in postponing tax and therefore no advantage in leasing. Value the
15. Valuing financial leases (S26.4) A lease with a varying rental schedule is known as a structured lease. Try structuring the Greymare Bus Lines lease to increase value to the lessee while
16. When financial leases pay (S26.5) In Section 26-5, we listed four circumstances in which there are potential gains from leasing. Check them out by conducting a sensitivity analysis on the
17. Valuing financial leases (S26.4) Nodhead College needs a new computer. It can either buy it for $250,000 or lease it from Compulease. The lease terms require Nodhead to make six annual payments
18. Valuing financial leases (S26.4) The Safety Razor Company has a large tax-loss carryforward and does not expect to pay taxes for another 10 years. The company is therefore proposing to lease
19. Valuing financial leases (S26.4–S26.5) True or false?a. The cost of capital for a financial lease is the pretax interest rate the company would pay on a bank loan.b. An equivalent loan’s
20. Nonrecourse debt (S26.6) Lenders to leveraged leases hold nonrecourse debt. What does“nonrecourse” mean? What are the benefits and costs of nonrecourse debt to the equity investors in the
21. Leveraged leases (S26.6) How does a leveraged lease differ from an ordinary, long-term financial lease? List the key differences.
22. Leveraged leases (S26.6) How would the lessee in Figure 26.1 evaluate the NPV of the lease? Sketch the correct valuation procedure. Then suppose that the equity lessor wants to evaluate the
24. Leasing and the Internal Rate of Return (S26.6) Reconstruct Table 26.2 as a leveraged lease, assuming that the lessor borrows $80,000, 80% of the cost of the bus, nonrecourse at an interest rate
1. What are the major risks that the company is facing and what are the possible consequences?Some risks are scarcely worth a thought, but there are others that might cause a serious setback or even
2. Is the company being paid for taking these risks? Managers are not paid to avoid all risks, but if they can reduce their exposure to risks for which there are no corresponding rewards, they can
3. How should risks be controlled? Should the company reduce risk by building extra flexibility into its operations? Should it change its operating or financial leverage? Or should it insure or hedge
Suppose that after three years, long-term interest rates fall to 4%. What is the value then of Friendly Bancorp’s swap?
1. Vocabulary check (S27-4) Define the following terms:a. Spot price.b. Forward vs. futures contract.c. Long vs. short position.d. Basis risk.e. Mark to market.f. Net convenience yield.
2. Insurance (S27-2) Large businesses spend millions of dollars annually on insurance. Why?Should they insure against all risks or does insurance make more sense for some risks than others?
3. Catastrophe bonds (S27-2) On some catastrophe bonds, payments are reduced if the claims against the issuer exceed a specified sum. In other cases, payments are reduced only if claims against the
4. Futures and options (S27-3–S27-4) A gold-mining firm is concerned about short-term volatility in its revenues. Gold currently sells for $1,300 an ounce, but the price is extremely volatile and
5. Futures and options (S27-3–S27-4) Parfum Pétrochimique (PP) is concerned about a possible increase in the price of heavy fuel oil, which is one of its major inputs. Show how PP can use either
6. Futures contracts (S27-4) True or false?a. Hedging transactions in an active futures market have zero or slightly negative NPVs.b. When you buy a futures contract, you pay now for delivery at a
7. Futures contracts (S27-4) List some of the commodity futures contracts that are traded on exchanges. Who do you think could usefully reduce risk by buying each of these contracts?Who do you think
8. Marking to market (S27-4) Yesterday, you sold six-month futures on the German DAX stock market index at a price of 15,600. Today, the DAX closed at 15,550 and DAX futures closed at 15,650. You get
9. Futures prices (S27-4) Calculate the value of a six-month futures contract on a Treasury bond. You have the following information:• Six-month interest rate: 10% per year, or 4.9% for six
10. Futures prices (S27-4) In July 2021, six-month futures on the Australian S&P/ASX 200 Index traded at 7,224. Spot was 7,309. The interest rate was about 1% a year, and the dividend yield was about
11. Futures prices (S27-4) If you buy a nine-month T-bill future, you undertake to buy a$1 million three-month bill in nine months’ time. Suppose that Treasury bills and notes currently offer the
12. Futures prices (S27-4) Table 27.4 contains spot and six-month futures prices for several commodities and financial instruments. There may be some money-making opportunities.See if you can find
13. Futures prices (S27-4) The following table shows 2021 gold futures prices for varying contract lengths. Gold is predominantly an investment good, not an industrial commodity.792 Part Nine Risk
14. Futures prices (S27-4) Consider the commodities and financial assets listed in Table 27.5.The risk-free interest rate is 6% a year, and the term structure is flat.Asset Spot Price Comments
15. Convenience yield (S27-4) Calculate the convenience yield for magnoosium scrap from the following information:• Spot price: $2,550 per ton.• Futures price: $2,408 for a one-year contract.•
16. Convenience yield (S27-4) Residents of the northeastern United States suffered record-setting low temperatures throughout November and December 2027. Spot prices of heating oil rose 25%, to over
17. Convenience yield (S27-4) After a record harvest, grain silos are full to the brim. Are storage costs likely to be high or low? What does this imply for the net convenience yield?
18. Convenience yield (S27-4) In July 2021, four-month bitcoin futures were priced at $33,930.The spot price was $33,645. The six-month interest rate was about 2%.a. What was the convenience yield?b.
19. Interest-rate swaps (S27-6) A year ago, a bank entered into a $50 million five-year interest rate swap. It agreed to pay company A each year a fixed rate of 6% and to receive in return SOFR. When
20. Interest rate swaps (S27-6) In June 2021, swap dealers were quoting a rate for five-year sterling interest-rate swaps of 0.73% against SONIA (the short-term interest rate for sterling loans).
21. Total return swaps (S27-6) Is a total return swap on a bond the same as a credit default swap(see Section 24-1)? Why or why not?
22. Hedging (S27-7) “Speculators want futures contracts to be incorrectly priced; hedgers want them to be correctly priced.” Why?
23. Hedging (S27-7) “Northern Refineries does not avoid risk by selling oil futures. If prices stay above $2.40 a gallon, then it will actually have lost by selling oil futures at that price.” Is
24. Hedging (S27-7) What is meant by “delta” (δ) in the context of hedging? Give examples of how delta can be estimated or calculated.
25. Hedging (S27-7) You own a $1 million portfolio of aerospace stocks with a beta of 1.2. You are very enthusiastic about aerospace but uncertain about the prospects for the overall stock market.
26. Hedging interest rates (S27-7)a. Marshall Arts has just invested $1 million in long-term Treasury bonds. Marshall is concerned about increasing volatility in interest rates. He decides to hedge
27. Hedging with futures (S27-7) Phoenix Motors wants to lock in the cost of 10,000 ounces of platinum to be used in next quarter’s production of catalytic converters. It buys three-month futures
28. Hedging with futures (S27-7) Legs Diamond owns shares in a Vanguard Index 500 mutual fund worth $1 million on July 15. (This is an index fund that tracks the Standard and Poor’s 500 Index.) He
29. Hedging (S27-7) Price changes of two gold-mining stocks have shown strong positive correlation.Their historical relationship is Average percentage change in A = 0.001 + 0.75 ( percentage change
30. Hedging (S27-7) Your investment bank has an investment of $100 million in the stock of the Swiss Roll Corporation and a short position in the stock of the Frankfurter Sausage Company.Here is the
31. Duration hedging (S27-7) Securities A, B, and C have the following cash flows:Year 1 Year 2 Year 3 A $ 40 $40 $ 40 B 120 — —C 10 10 110 Chapter 27 Managing Risk 795a. Calculate their
32. Basis risk (S27-7) What is basis risk? In which of the following cases would you expect basis risk to be serious?a. A broker owning a large block of Disney common stock hedges by selling index
33. Interest-rate swaps (S27-6) Phillip’s Screwdriver Company has borrowed $20 million from a bank at a floating interest rate of 2 percentage points above three-month Treasury bills, which now
14. Responsible business in practice (S20-5) What is a company’s purpose, and what steps can it take to put purpose into practice?
13. Responsible business in practice (S20-5)a. What is a benefit corporation?b. What is a B Corp?c. How do they differ?
12. Responsible business in practice (S20-5) Can companies invest in stakeholders under shareholder primacy?Chapter 20 Stakeholder Capitalism and Responsible Business 613
11. Responsible business in practice (S20-5) What does shareholder primacy mean? Give examples of countries where shareholder primacy is in operation.
10. Responsible business (S20-4) What principles can a responsible business use to make decisions?
9. Responsible business (S20-4) What is the definition of a responsible business?
8. Stakeholder capitalism (S20-3) Give three reasons stakeholder capitalism might be more effective than shareholder capitalism.
7. Stakeholder capitalism (S20-3) How did the Business Roundtable change its Statement on the Purpose of a Corporation in 2019?
6. Shareholder capitalism (S20-3) Name two advantages of having shareholder value as the only goal of a corporation.
5. Shareholder capitalism (S20-2) What is the objective of the corporation undera. Shareholder capitalism?b. Stakeholder capitalism?
4. Shareholder capitalism (S20-2) Why is enlightened shareholder value referred to as“enlightened”?
3. Shareholder capitalism (S20-2) Name two parties that will protect stakeholder welfare under shareholder capitalism.
2. Shareholder capitalism (S20-2) What did Milton Friedman argue in 1970, and how did he support his argument?
1. Stakeholder capitalism (S20-1) Who are the main stakeholders of a company?

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