Question

QUESTION 20

An option is a contract which gives its holder the right to buy or sell an asset at a predetermined price within a specified period of time.

True

False

QUESTION 21

The exercise price is the price that must be paid for a share of common stock when it is bought by exercising a warrant.

True

False

QUESTION 22

Albany Motors recently completed a 3-for-1 stock split. Prior to the split, the company had 10 million shares outstanding and its stock price was $150 per share. After the split, the total market value of the company’s stock equaled $1.5 billion. What was the price of the company’s stock following the stock split?

		$ 15
		$ 45
		$ 50
		$150
		$450

QUESTION 23

A stock is currently selling for $20. In three months (91 days), the stock price will be either $30 or $11. If you are considering a call option for this stock with an exercise price of $21, what would be the value of this option today? The risk free rate of return is 4.5%.

		$18.79
		$4.32
		$8.90
		$9.23

QUESTION 24

Target-Mart is planning a new store in Greenwich.  The company will lease the needed space for 9 years.  Equipment and fixtures for the store will cost $500,000 and will be depreciated totally using the straight-line depreciation method.  In addition, inventories valued at $50,000 will also be needed to stock the store at the current time (before opening).  Sales are expected to be $1.5 million each year.  Operating expenses, ignoring depreciation, will be $750,000 each year.  The firm will liquidate the inventory at the end of the 9-year period.  The corporate tax rate is 34%.  The WACC for Target-Mart is 13.75%.

What is the NPV of this project?

		$2,151,238
		$2,030,850
		$878,360
		$2,220,650

QUESTION 25

The price at which the stock or asset may be purchased from (or sold to) the option writer is referred to as the __________.

		option premium
		open interest
		intrinsic value
		strike price

Answer 1

ANSWER

20)

CORRECT ANSWER TRUE

EXPLANATION  

An OPTION is a Derivative Contract which gives the holder Right to Buy {in case of Call Option} or Right to Sell {in case of Put Option} an Asset at Predetermined Price {known as Strike Price} within the time left to Expiry of the Contract.

21)

CORRECT ANSWER TRUE

EXPLANATION  

When a Warrent is Issued it has whole set of terms and conditions attached to it. It always includes an Exercise Price which is nothing but a Price that is decided & fixed in advance at which the Warrent holders can covert it into Share when they want. So it does not matter at what price the shares are trading. Shares will be given at the Exercise Price only.

22)

Stock Price after Split = Price before Split / Split Ratio

= $ 150 / 3

= $ 50

23)

step 1 : Calculation of Probability of Price going Upside

Probability of upside = CMP*(1+rt) - Lower Price / Upper Price - Lower Price

= (20 * 1.01125) - 11 / 30 - 11

= 9.225 / 19

= 0.486

step 2 : Calculating Value of Call Option on Maturity

Value of Call Option ON MATURITY = (Upper Price - Exercise Price) * Probability of Upside

= ( $30 - $21 ) * 0.486

= $ 9 * 0.486

= $ 4.36973684

step 3 : Bringing Value AT MATURITY to TODAY by Discounting

Value of Call Option as on Today = Value at Maturity / (1+rt)

= $ 4.36973684 / 1.01125

= $ 4.32