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In: Finance

Which of these statements apply MM Proposition II without taxes? I. The expected return on equity...

Which of these statements apply MM Proposition II without taxes?

I. The expected return on equity is positively related to leverage.
II. The value of a firm cannot be changed by changing its capital structure.
III. Risk to equity holders increases with leverage.
IV. The expected return on equity is affected by the firm's debt-to-equity ratio.

	A.	I, II, and III only
	B.	II and IV only
	C.	I, II, III, and IV
	D.	I, III, and IV only

Tiger Inc. has an all-equity capital structure with an equity value of $624,100. The expected earnings are $78,900 based on estimated sales of $600,000. The firm pays no taxes. What is the cost of capital?

	A.	13.15 percent
	B.	9.37 percent
	C.	13.88 percent
	D.	12.64 percent

The market price of Wild Ride stock has been very volatile and you think this volatility will continue for a few weeks. Thus, you decide to purchase a 1-month call option contract with a strike price of $23 and an option price of $1.83 You also purchase a 1-month put option on the stock with a strike price of $23 and an option price of $.95. What will be your total profit or loss on all the transactions related to these option positions if the stock price is $17.20 on the day the options expire?

	A.	$150
	B.	$200
	C.	-$260
	D.	$302

Expert Solution

I. The expected return on equity is positively related to leverage.
II. The value of a firm cannot be changed by changing its capital structure.
III. Risk to equity holders increases with leverage.
IV. The expected return on equity is affected by the firm's debt-to-equity ratio.

	A.	I, II, and III only
	B.	II and IV only
	C.	I, II, III, and IV
	D.	I, III, and IV only

2) Tiger Inc. has an all-equity capital structure with an equity value of $624,100. The expected earnings are $78,900 based on estimated sales of $600,000. The firm pays no taxes. What is the cost of capital?

	A.	13.15 percent
	B.	9.37 percent
	C.	13.88 percent
	D.	12.64 percent

Cost of Capital Since no Debt = (78,900/624,100)=12.64%

3) The market price of Wild Ride stock has been very volatile and you think this volatility will continue for a few weeks. Thus, you decide to purchase a 1-month call option contract with a strike price of $23 and an option price of $1.83 You also purchase a 1-month put option on the stock with a strike price of $23 and an option price of $.95. What will be your total profit or loss on all the transactions related to these option positions if the stock price is $17.20 on the day the options expire? \

	A.	$150
	B.	$200
	C.	-$260
	D.	$302

Profit From Call Option= Max (Stock Price-Strike Price,0)-1.83

=( Max (17.20-23,0)-1.83)*100

=(0 -1.83)*100

=-183

Profit From Put Option=Max (Strike Price-Stock Price,0)-1.83

= (Max (23- 17.20)-0.95)*100

?=(Max(5.80,0)-0.95)*100

=(5.80-0.95)*100

=485

Therefore, net Profit= -183+485=302

jeff jeffy answered 2 years ago

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