Question

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1. MMs’ Proposition II states that the value of the firm depends on all of the following except,

1. Required rate of return on the firm’s assets
2. Cost of debt of the firm
3. Debt to equity ratio of the firm
4. Cost of equity of the firm

2. which of the following types of risk is most difficult to manage?

a. interest rate risk

b. exchange rate risk

c. price risk

d. demand risk

3. which of the following statements regarding futures and forward contracts is most correct?

a. futures contracts are similar to forward contracts except for the length of time the contract is outstanding?

b. forward contracts are “,marked to market” on a daily basis, while futures contracts are not “marked to market”

c. with forward contracts, physical delivery of the underlying asset is virtually ne never take

d. all of the statements are false

4. you are given the following: stock price= 100; strike price= 120; call price= $4.50; put=$0.95; t=90 days. What would be the intrinsic value of the call option?

a. 0.00

b. 10.00

c. 20.00

d. -4.50

5. a tender offer is

a. the last step in the consolidation of two firms

b. the initial offer made by the acquiring form to the dissenting shareholders of the acquired firm in a merger proceeding

c. a fair offer by an acquiring firm;s shareholders in accordance with their appraisal rights.

d. a public offer to purchase shares of a target firm.

6.  diversification is considered a dubious reason for merger because:

a. personal diversification is possibly by the firm itself

b. risk reduction is achieved by more bondholders than stockholders.

c. diversification only minimizes unsystematic risk

d. all of the above

7. According to the trade-off theory

a. the firm should increase debt until it covers the pv cost of financial distress

b. the firm should increase debt until the value from the pv tax shield is just offset, at the margin but increase in PV cost of financial distress

c. the firm should increase debt until the increase in pv cost of financial distress is offset by the tax shield.

d. the firm should increase debt until the value from pv tax shield is just offset at the margin

8.

under the pecking order theory, what is the order in which firms will obtain financing?

a. internal financing, debt, equity

b. equity, debt, internal financing

c. debt, internal financing, equity

d. equity, internal financing, debt

9. the date on which the right to the current dividend no longer accompanies a stock is called

a. declaration date

b. payment date

c. ex-dividend rate

d. holder of record date

10. which of the following represent differences between a forward contract and a futures contract?

i. a futures contract only specifies the month of delivery whereas a forward contract specifies the date of delivery

ii. a forward contract is traded on an exchange while a future contract is not

iii. with a futures contract, but not with a forward contract, the party which takes delivery may not be the original party which entered the contract with the seller.

Iv. Forward contracts are marked to the market daily whereas futures contracts are not.

1. iii only
2. I and iii only
3. Ii and iv only
4. Iii and iv only

Answer 1

Ans 1) Correct answer will be option i) required rate of return on the firm's asset.

formaula is re = ro + (rd - ro)(1-t)(d/e)

as we can see in this formula there is all other factors like cost of debt(rd), debt to equity ratio(d/e), and return in equity(re)

Ans 2) Exchange rate risk is most difficult to manage because it has many risks associated with it like interest rate risk of two countries, currency risk, monetary rate, inflation rate, supply and demand and many more factors which affect the exchange rate.

Ans 3) All of the above the statements are false because it is future contacts which is mark to market and future contracts can be settled by physical delivery.

Ans 4) This call is the out of the money thus it has 0 as its intrinsic value but it has a $4.5 as a time value.

Ans 5) A tender offer is the initial offer made by the acquiring form to the dissenting shareholders of the acquired firm in a merger proceeding.

Ans 6) all are correct

Ans 7) According to the trade-off theory: the firm should increase debt until the increase in pv cost of financial distress is offset by the tax shield

Ans 8) Order in which firms will obtain financing under the pecking order theory: internal financing, debt, equity. According to Pecking order theory once should finance its project with internal financing first and then move to debt and finally to equity.

Ans 9) the date on which the right to the current dividend no longer accompanies a stock is called ex-dividend rate.

Ans 10) correct answer is option b