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Multiple Choice Questions in Finance

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Question 1

Which of the following statements is CORRECT
 
a.    You hold two bonds, a 10-year, zero coupon, issue and a 10-year bond that pays a 6% annual coupon.  The same market rate, 6%, applies to both bonds.  If the market rate rises from its current level, the zero coupon bond will experience the larger percentage decline.

b.    The shorter the time to maturity, the greater the change in the value of a bond in response to a given change in interest rates, other things held constant.
 
c.    You hold two bonds.  One is a 10-year, zero coupon, bond and the other is a 10-year bond that pays a 6% annual coupon.  The same market rate, 6%, applies to both bonds.  If the market rate rises from the current level, the zero coupon bond will experience the smaller percentage decline.
 
d.    The time to maturity does not affect the change in the value of a bond in response to a given change in interest rates.
 
e.    The higher the coupon rate, the greater the change in the value of a bond in response to a given change in interest rates.

Question 2

Which of the following events would make it more likely that a company would call its outstanding callable bonds
 
a.    Inflation increases significantly.
 
b.    Market interest rates decline sharply.
 
c.    The company's financial situation deteriorates significantly.
 
d.    Market interest rates rise sharply.
 
e.    The company’s bonds are downgraded.

Question 3

Under normal conditions, which of the following would be most likely to increase the coupon rate required for a bond to be issued at par
 
a.    The rating agencies change the bond's rating from Baa to Aaa.
 
b.    Adding additional restrictive covenants that limit management's actions.
 
c.    Adding a sinking fund.
 
d.    Making the bond a first mortgage bond rather than a debenture.
 
e.    Adding a call provision.

Question 4

Which of the following statements is CORRECT?

a.    Sinking fund provisions sometimes turn out to adversely affect bondholders, and this is most likely to occur if interest rates decline after the bond was issued.
 
b.    A sinking fund provision makes a bond more risky to investors at the time of issuance.
 
c.    If interest rates increase after a company has issued bonds with a sinking fund, the company will be less likely to buy bonds on the open market to meet its sinking fund obligation and more likely to call them in at the sinking fund call price.
 
d.    Most sinking funds require the issuer to provide funds to a trustee, who holds the money so that it will be available to pay off bondholders when the bonds mature.
 
e.    Sinking fund provisions never require companies to retire their debt; they only establish “targets” for the company to reduce its debt over time.

Question 5

A 10-year corporate bond has an annual coupon of 9%.  The bond is currently selling at par ($1,000).  Which of the following statements is CORRECT?
 
a.    The bond’s current yield is less than its expected capital gains yield.
 
b.    The bond’s current yield is above 9%.
 
c.    The bond’s yield to maturity is above 9%.
 
d.    If the bond’s yield to maturity declines, the bond will sell at a discount.
 
e.    The bond’s expected capital gains yield is zero.

Question 6

Which of the following statements is CORRECT
 
a.    If a bond is selling at a discount, the yield to call is a better measure of return than is the yield to maturity.
 
b.    On an expected yield basis, the expected current yield will always be positive because an investor would not purchase a bond that is not expected to pay any cash coupon interest.
 
c.    The current yield on Bond A exceeds the current yield on Bond B; therefore, Bond A must have a higher yield to maturity than Bond B.
 
d.    On an expected yield basis, the expected capital gains yield will always be positive because an investor would not purchase a bond with an expected capital loss.
 
e.    If a coupon bond is selling at par, its current yield equals its yield to maturity, and its expected capital gains yield is zero.

Question 7

A 10-year Treasury bond has an 8% coupon, and an 8-year Treasury bond has a 10% coupon.  Neither is callable, and both have the same yield to maturity.  If the yield to maturity of both bonds increases by the same amount, which of the following statements would be CORRECT
 
a.    Both bonds would decline in price, but the 10-year bond would have the greater percentage decline in price.
 
b.    One bond's price would increase, while the other bond’s price would decrease.
 
c.    The prices of the two bonds would remain constant.
 
d.    The prices of both bonds will decrease by the same amount.
 
e.    The prices of both bonds would increase by the same amount.

Question 8

Which of the following statements is CORRECT?
 
a.    All else equal, high-coupon bonds have less reinvestment rate risk than low-coupon bonds.
 
b.    All else equal, short-term bonds have less reinvestment rate risk than long-term bonds.
 
c.    All else equal, long-term bonds have less reinvestment rate risk than short-term bonds.
 
d.    All else equal, low-coupon bonds have less interest rate price risk than high-coupon bonds.
 
e.    All else equal, long-term bonds have less interest rate price risk than short-term bonds.

Question 9

Which of the following statements is CORRECT
 
a.    Convertible bonds generally have lower coupon rates than non-convertible bonds of similar default risk because they offer the possibility of capital gains.
 
b.    Junk bonds typically provide a lower yield to maturity than investment-grade bonds.
 
c.    A debenture is a secured bond that is backed by some or all of the firm’s assets.
 
d.    Senior debt is debt that has been more recently issued, and in bankruptcy it is paid off after junior debt because the junior debt was issued first.
 
e.    A company's subordinated debt has less default risk than its senior debt.

Question 10

Which of the following statements is CORRECT?
 
a.    Once a firm declares bankruptcy, it must be liquidated by the trustee, who uses the proceeds to pay bondholders, unpaid wages, taxes, and legal fees.
 
b.    One disadvantage of zero coupon bonds is that the issuing firm cannot realize any tax savings from the use of debt until the bonds mature.
 
c.    Other things held constant, a callable bond should have a lower yield to maturity than a noncallable bond.
 
d.    Income bonds must pay interest only if the company earns the interest.  Thus, these securities cannot bankrupt a company prior to their maturity, and this makes them safer to the issuing corporation than "regular" bonds.
 
e.    A firm with a sinking fund that gives it the choice of calling the required bonds at par or buying the bonds in the open market would generally choose the open market purchase if the coupon rate exceeded the going interest rate.

Question 11

Listed below are some provisions that are often contained in bond indentures. Which of these provisions, viewed alone, would tend to reduce the yield to maturity that investors would otherwise require on a newly issued bond?
1.    Fixed assets may be used as security.
2.    The bond may be subordinated to other classes of debt.
3.    The bond may be made convertible.
4.    The bond may have a sinking fund.
5.    The bond may have a call provision.
6.    The bond may have restrictive covenants in its indenture.
    
a.    1, 4, 6
 
b.    1, 2, 3, 4, 5, 6
 
c.    1, 2, 3, 4, 6
 
d.    1, 3, 4, 5, 6
 
e.    1, 3, 4, 6

Question 12

A company is planning to raise $1,000,000 to finance a new plant.  Which of the following statements is CORRECT
 
a.    If debt is used to raise the million dollars, the cost of the debt would be higher if the debt were in the form of a mortgage bond rather than an unsecured term loan.
 
b.    If two classes of debt are used (with one senior and the other subordinated to all other debt), the subordinated debt will carry a lower interest rate.
 
c.    If debt is used to raise the million dollars, the cost of the debt would be lower if the debt were in the form of a fixed-rate bond rather than a floating-rate bond.
 
d.    If debt is used to raise the million dollars, but $500,000 is raised as first mortgage bonds on the new plant and $500,000 as debentures, the interest rate on the first mortgage bonds would be lower than it would be if the entire $1 million were raised by selling first mortgage bonds.
 
e.    The company would be especially eager to have a call provision included in the indenture if its management thinks that interest rates are almost certain to rise in the foreseeable future.

Question 13

Ryngaert Inc. recently issued noncallable bonds that mature in 15 years.  They have a par value of $1,000 and an annual coupon of 5.7%.  If the current market interest rate is 9.7%, at what price should the bonds sell?
 
a.    $725.00
 
b.    $655.95
 
c.    $835.47
 
d.    $524.76
 
e.    $690.48

Question 14

Radoski Corporation's bonds make an annual coupon payment of 7.35% every year.  The bonds have a par value of $1,000, a current price of $970, and mature in 12 years.  What is the yield to maturity on these bonds?
 
a.    9.45%
 
b.    7.74%
 
c.    7.82%
 
d.    7.51%
 
e.    5.88%

Question 15

Sadik Inc.'s bonds currently sell for $1,270 and have a par value of $1,000.  They pay a $105 annual coupon and have a 15-year maturity, but they can be called in 5 years at $1,100.  What is their yield to call (YTC)?
 
a.    5.18%
 
b.    6.30%
 
c.    6.54%
 
d.    5.89%
 
e.    6.89%

Question 16

Grossnickle Corporation issued 20-year, non-callable, 7.8% annual coupon bonds at their par value of $1,000 one year ago.  Today, the market interest rate on these bonds is 5.5%.  What is the current price of the bonds, given that they now have 19 years to maturity?

 a.    $1,507.70
 
b.    $1,064.26
 
c.    $1,266.98
 
d.    $1,114.94
 
e.    $1,165.62

Question 17

McCue Inc.'s bonds currently sell for $1,100.  They pay a $90 annual coupon, have a 25-year maturity, and a $1,000 par value, but they can be called in 5 years at $1,050.  Assume that no costs other than the call premium would be incurred to call and refund the bonds, and also assume that the yield curve is horizontal, with rates expected to remain at current levels on into the future.  What is the difference between this bond's YTM and its YTC?
 
a.    0.65%
 
b.    0.73%
 
c.    0.66%
 
d.    0.64%
 
e.    0.60%

Question 18

Taussig Corp.'s bonds currently sell for $840.  They have a 6.35% annual coupon rate and a 20-year maturity, but they can be called in 5 years at $1,067.50.  Assume that no costs other than the call premium would be incurred to call and refund the bonds, and also assume that the yield curve is horizontal, with rates expected to remain at current levels on into the future.  Under these conditions, what rate of return should an investor expect to earn if he or she purchases these bonds?
 
a.    7.74%
 
b.    9.81%
 
c.    7.98%
 
d.    6.94%
 
e.    8.69%

Question 19

Moerdyk Corporation's bonds have a 15-year maturity, a 7.25% semiannual coupon, and a par value of $1,000.  The going interest rate (rd) is 7.50%, based on semiannual compounding.  What is the bond’s price?
 
a.    $860.39
 
b.    $899.50
 
c.    $1,202.59
 
d.    $977.71
 
e.    $821.28

Question 20

Keenan Industries has a bond outstanding with 15 years to maturity, an 8.25% nominal coupon, semiannual payments, and a $1,000 par value.  The bond has a 6.50% nominal yield to maturity, but it can be called in 6 years at a price of $1,150.  What is the bond’s nominal yield to call?

 a.    6.54%
 
b.    6.61%
 
c.    6.89%
 
d.    8.54%
 
e.    6.75%

Question 21

Which of the following statements is most correct?
 
a.    If a company has two classes of common stock, Class A and Class B, the stocks may pay different dividends, but the two classes must have the same voting rights.
 
b.    An IPO occurs whenever a company buys back its stock on the open market.
 
c.    The preemptive right is a provision in the corporate charter which gives common stockholders the right to purchase (on a pro rata basis) new issues of common stock.
 
d.    Statements a and b are correct.
 
e.    Statements a and c are correct.

Question 22

Which of the following statements is most correct?
 
a.    One of the advantages to the firm associated with financing using preferred stock rather than common stock is that control of the firm is not diluted.
 
b.    Preferred stock provides steadier and more reliable income to investors than common stock.
 
c.    One of the advantages to the firm of financing with preferred stock is that 70 percent of the dividends paid out are tax deductible.
 
d.    Statements a and c are correct.
 
e.    Statements a and b are correct.

Question 23

Which of the following statements is most correct?
 
a.    Assume that the required rate of return on a given stock is 13 percent. If the stock's dividend is growing at a constant rate of 5 percent, its expected dividend yield is 5 percent as well.
 
b.    The dividend yield on a stock is equal to the expected return less the expected capital gain.
 
c.    A stock's dividend yield can never exceed the expected growth rate.
 
d.    All of the answers above are correct.
 
e.    Answers b and c are correct.

Question 24

A share of common stock has just paid a dividend of $3.00. If the expected long-run growth rate for this stock is 5 percent, and if investors require an 11 percent rate of return, what is the price of the stock?
 
a.    $50.00
 
b.    $53.00
 
c.    $50.50
 
d.    $63.00
 
e.    $52.50

Question 25

The Jones Company has decided to undertake a large project. Consequently, there is a need for additional funds. The financial manager plans to issue preferred stock with a perpetual annual dividend of $5 per share and a par value of $30. If the required return on this stock is currently 20 percent, what should be the stock's market value?
 
a.    $  10
 
b.    $150
 
c.    $  25
 
d.    $100
 
e.    $  50

Question 26

Other things being equal, an increase in a firm’s expected growth rate would cause its required rate of return to
 
a.    decrease.
 
b.    fluctuate more than before.
 
c.    fluctuate less than before.
 
d.    increase.
 
e.    possibly increase, possibly decrease, or possibly remain constant.

Question 27

If in the opinion of a given investor a stock’s expected return exceeds its required return, this suggests that the investor thinks
 
a.    the stock is experiencing supernormal growth.
 
b.    the stock should be sold.
 
c.    dividends are not likely to be declared.
 
d.    management is probably not trying to maximize the price per share.
 
e.    the stock is a good buy.

Question 28

The preemptive right is important to shareholders because it
 
a.    protects the current shareholders against a dilution of their ownership interests.
 
b.    will result in higher dividends per share.
 
c.    protects bondholders, and thus enables the firm to issue debt with a relatively low interest rate.
 
d.    allows managers to buy additional shares below the current market price.
 
e.    is included in every corporate charter.

Question 29

Stocks A and B have the same price and are in equilibrium, but Stock A has the higher required rate of return.  Which of the following statements is CORRECT?
 
a.    If Stock A has a lower dividend yield than Stock B, its expected capital gains yield must be higher than Stock B’s.
 
b.    Stock A must have a higher dividend yield than Stock B.
 
c.    Stock B must have a higher dividend yield than Stock A.
 
d.    Stock A must have both a higher dividend yield and a higher capital gains yield than Stock B.
 
e.    If Stock A has a higher dividend yield than Stock B, its expected capital gains yield must be lower than Stock B’s.

Question 30

Which of the following statements is CORRECT, assuming stocks are in equilibrium?
 
a.    All of the above statements are correct
 
b.    A stock’s dividend yield can never exceed its expected growth rate.
 
c.    Other things held constant, the higher a company’s beta coefficient, the lower its required rate of return.
 
d.    Assume that the required return on a given stock is 15%. If the stock’s dividend is growing at a constant rate of 4%, its expected dividend yield is 6%.
 
e.    A required condition for one to use the constant growth model is that the stock’s expected growth rate is lower than its required rate of return.

Question 31

Which of the following statements is NOT CORRECT?
 
a.    An important step in applying the corporate valuation model is forecasting the firm's pro forma financial statements.
 
b.    The corporate valuation model can be used to find the value of a division.
 
c.    The corporate valuation model can be used both for companies that pay dividends and those that do not pay dividends.
 
d.    Free cash flows are assumed to grow at a constant rate beyond a specified date in order to find the horizon, or terminal, value.
 
e.    The corporate valuation model discounts free cash flows by the required return on equity.

Question 32

Which of the following statements is CORRECT?
 
a.    Preferred stockholders have a priority over bondholders in the event of bankruptcy to the income, but not to the proceeds in a liquidation.
 
b.    Preferred dividends are not generally cumulative.
 
c.    Corporations cannot buy the preferred stocks of other corporations.
 
d.    The preferred stock of a given firm is generally less risky to investors than the same firm’s common stock.
 
e.    A big advantage of preferred stock is that dividends on preferred stocks are tax deductible by the issuing corporation.

Question 33

Which of the following statements is CORRECT?
 
a.    A major disadvantage of financing with preferred stock is that preferred stockholders typically have supernormal voting rights.
 
b.    Preferred stock is normally expected to provide steadier, more reliable income to investors than the same firm’s common stock, and, as a result, the expected after-tax yield on the preferred is lower than the after-tax expected return on the common stock.
 
c.    The preemptive right is a provision in all corporate charters that gives preferred stockholders the right to purchase (on a pro rata basis) new issues of preferred stock.
 
d.    One of the advantages to financing with preferred stock is that 70% of the dividends paid out are tax deductible to the issuer.
 
e.    One of the disadvantages to a corporation of owning preferred stock is that 70% of the dividends received represent taxable income to the corporate recipient, whereas interest income earned on bonds would be tax free.

Question 34   

A stock is expected to pay a dividend of $0.75 at the end of the year.  The required rate of return is r  = 10.5%, and the expected constant growth rate is g = 6.0%.  What is the stock's current price?
 
a.    $15.83
 
b.    $18.50
 
c.    $16.67
 
d.    $20.83
 
e.    $18.67

Question 35

A share of common stock just paid a dividend of $1.00.  If the expected long-run growth rate for this stock is 5.4%, and if investors' required rate of return is 13.9%, what is the stock price?
 
a.    $13.76
 
b.    $12.40
 
c.    $9.42
 
d.    $15.00
 
e.    $11.04

Question 36

Gay Manufacturing is expected to pay a dividend of $1.25 per share at the end of the year.  The stock sells for $21.50 per share, and its required rate of return is 10.5%.  The dividend is expected to grow at some constant rate, g, forever.  What is the equilibrium expected growth rate?
 
a.    5.48%
 
b.    5.34%
 
c.    4.73%
 
d.    4.87%
 
e.    4.69%

Question 37

Molen Inc. has an outstanding issue of perpetual preferred stock with an annual dividend of $2.50 per share.  If the required return on this preferred stock is 6.5%, at what price should the stock sell?
 
a.    $30.00
 
b.    $46.54
 
c.    $41.54
 
d.    $38.46
 
e.    $44.23

Question 38

You must estimate the intrinsic value of Noe Technologies’ stock.  The end-of-year free cash flow is expected to be $24.00 million, and it is expected to grow at a constant rate of 7.0% a year thereafter.  The company’s WACC is 10.0%, it has $125.0 million of long-term debt plus preferred stock outstanding, and there are 15.0 million shares of common stock outstanding.  What is the firm's estimated intrinsic value per share of common stock?
 
a.    $48.15
 
b.    $45.00
 
c.    $36.90
 
d.    $34.20
 
e.    $45.45

Question 39

Nachman Industries just paid a dividend of $4.75.  Analysts expect the company's dividend to grow by 30% this year, by 10% in Year 2, and at a constant rate of 5% in Year 3 and thereafter.  The required return on this low-risk stock is 9.00%.  What is the best estimate of the stock’s current market value?
 
a.    $196.98
 
b.    $175.99
 
c.    $132.39
 
d.    $161.46
 
e.    $150.15

Question 40

The Ramirez Company has just paid a dividend of $1.75.  Its dividend growth rate is expected to be constant at 15% for 2 years, after which dividends are expected to grow at a rate of 6% forever.  Its required return (r ) is 12%.  What is the best estimate of the current stock price?
 
a.    $36.24
 
b.    $36.60
 
c.    $42.76
 
d.    $39.14
 
e.    $38.77


Summary:

The assignment in finance or financial management include objective questions from concepts such as stock market, bonds, callable bonds, sinking fund, interest rate on sinking fund, expected capital gain yield, treasury bonds, short term bonds, etc.

 

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