Question 1

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 NOT CORRECT?

Accepted Answer

A)  The bond's yield to maturity is 9%. 
B)  The bond's current yield is 9%. 
C)  If the bond's yield to maturity remains constant, the bond will continue to sell at par. 
D)  The bond's current yield exceeds its capital gains yield. 
E)  The bond's expected capital gains yield is positive. 
A)  The bond's yield to maturity is 9%. 
B)  The bond's current yield is 9%. 
C)  If the bond's yield to maturity remains constant, the bond will continue to sell at par. 
D)  The bond's current yield exceeds its capital gains yield. 
E)  The bond's expected capital gains yield is positive.

Question 2

Which of the following statements is CORRECT?

Accepted Answer

A)  A bond's current yield must always be either equal to its yield to maturity or between its yield to maturity and its coupon rate. 
B)  If a bond sells at par, then its current yield will be less than its yield to maturity. 
C)  If a bond sells for less than par, then its yield to maturity is less than its coupon rate. 
D)  A discount bond's price declines each year until it matures, when its value equals its par value. 
E)  Assume that two bonds have equal maturities and are of equal risk, but one bond sells at par while the other sells at a premium above par.The premium bond must have a lower current yield and a higher capital gains yield than the par bond. 
A)  A bond's current yield must always be either equal to its yield to maturity or between its yield to maturity and its coupon rate. 
B)  If a bond sells at par, then its current yield will be less than its yield to maturity. 
C)  If a bond sells for less than par, then its yield to maturity is less than its coupon rate. 
D)  A discount bond's price declines each year until it matures, when its value equals its par value. 
E)  Assume that two bonds have equal maturities and are of equal risk, but one bond sells at par while the other sells at a premium above par.The premium bond must have a lower current yield and a higher capital gains yield than the par bond.

Question 3

CMS Corporation's balance sheet as of today is as follows: $\begin{array}{lr}
\text { Long-term debt (bonds, at par) } & \$ 10,000,000 \
\text { Preferred stock } & 2,000,000 \
\text { Common stock }(\$ 10 \mathrm{par}) & 10,000,000 \
\text { Retained earnings } & 4,000,000 \
\text { Total debt and equity }&\$26,000
\end{array}$ The bonds have a 4.0% coupon rate, payable semiannually, and a par value of $1,000.They mature exactly 10 years from today.The yield to maturity is 12%, so the bonds now sell below par.What is the current market value of the firm's debt?

Accepted Answer

A)  $5,276,731 
B)  $5,412,032 
C)  $5,547,332 
D)  $7,706,000 
E)  $7,898,650 
A)  $5,276,731 
B)  $5,412,032 
C)  $5,547,332 
D)  $7,706,000 
E)  $7,898,650

Question 4

The YTMs of three $1,000 face value bonds that mature in 10 years and have the same level of risk are equal.Bond A has an 8% annual coupon, Bond B has a 10% annual coupon, and Bond C has a 12% annual coupon.Bond B sells at par.Assuming interest rates remain constant for the next 10 years, which of the following statements is CORRECT?

Accepted Answer

A)  Since the bonds have the same YTM, they should all have the same price, and since interest rates are not expected to change, their prices should all remain at their current levels until maturity. 
B)  Bond C sells at a premium (its price is greater than par), and its price is expected to increase over the next year. 
C)  Bond A sells at a discount (its price is less than par), and its price is expected to increase over the next year. 
D)  Over the next year, Bond A's price is expected to decrease, Bond B's price is expected to stay the same, and Bond C's price is expected to increase. 
E)  Bond A's current yield will increase each year. 
A)  Since the bonds have the same YTM, they should all have the same price, and since interest rates are not expected to change, their prices should all remain at their current levels until maturity. 
B)  Bond C sells at a premium (its price is greater than par), and its price is expected to increase over the next year. 
C)  Bond A sells at a discount (its price is less than par), and its price is expected to increase over the next year. 
D)  Over the next year, Bond A's price is expected to decrease, Bond B's price is expected to stay the same, and Bond C's price is expected to increase. 
E)  Bond A's current yield will increase each year.

Question 5

Which of the following statements is CORRECT?

Accepted Answer

A)  Other things held constant, a callable bond should have a lower yield to maturity than a noncallable bond. 
B)  Once a firm declares bankruptcy, it must then be liquidated by the trustee, who uses the proceeds to pay bondholders, unpaid wages, taxes, and lawyer fees. 
C)  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. 
D)  A firm with a sinking fund that gave 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. 
E)  One disadvantage of zero coupon bonds is that the issuing firm cannot realize any tax savings from the debt until the bonds mature. 
A)  Other things held constant, a callable bond should have a lower yield to maturity than a noncallable bond. 
B)  Once a firm declares bankruptcy, it must then be liquidated by the trustee, who uses the proceeds to pay bondholders, unpaid wages, taxes, and lawyer fees. 
C)  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. 
D)  A firm with a sinking fund that gave 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. 
E)  One disadvantage of zero coupon bonds is that the issuing firm cannot realize any tax savings from the debt until the bonds mature.

Question 6

Sinking funds are devices used to force companies to retire bonds on a scheduled basis prior to their maturity.Many bond indentures allow the company to acquire bonds for a sinking fund by either purchasing bonds in the market or selecting the bonds to be acquired by a lottery administered by the trustee through a call at face value.

Accepted Answer

A) True 
 B)False

Question 7

Bonds for two companies were just issued: Short Corp.'s bonds will mature in 5 years, and Long Corp.'s bonds will mature in 15 years.Both bonds promise to pay a semiannual coupon, they are not callable or convertible, and they are equally liquid.Further, assume that the Treasury yield curve is based only on expectations about future inflation, i.e., that the maturity risk premium is zero for T-bonds.Under these conditions, which of the following statements is correct?

Accepted Answer

A)  If the Treasury yield curve is downward sloping, Long's bonds must under all conditions have the lower yield. 
B)  If the yield curve for Treasury securities is upward sloping, Long's bonds must under all conditions have a higher yield than Short's bonds. 
C)  If the yield curve for Treasury securities is flat, Short's bond must under all conditions have the same yield as Long's bonds. 
D)  If Long's and Short's bonds have the same default risk, their yields must under all conditions be equal. 
E)  If the Treasury yield curve is upward sloping and Short has less default risk than Long, then Short's bonds must under all conditions have the lower yield. 
A)  If the Treasury yield curve is downward sloping, Long's bonds must under all conditions have the lower yield. 
B)  If the yield curve for Treasury securities is upward sloping, Long's bonds must under all conditions have a higher yield than Short's bonds. 
C)  If the yield curve for Treasury securities is flat, Short's bond must under all conditions have the same yield as Long's bonds. 
D)  If Long's and Short's bonds have the same default risk, their yields must under all conditions be equal. 
E)  If the Treasury yield curve is upward sloping and Short has less default risk than Long, then Short's bonds must under all conditions have the lower yield.

Question 8

Which of the following statements is CORRECT?

Accepted Answer

A)  If rates fall after its issue, a zero coupon bond could trade at a price above its par value. 
B)  If rates fall rapidly, a zero coupon bond's expected appreciation could become negative. 
C)  If a firm moves from a position of strength toward financial distress, its bonds' yield to maturity would probably decline. 
D)  If a bond is selling at a premium, this implies that its yield to maturity exceeds its coupon rate. 
E)  If a coupon bond is selling at par, its current yield equals its yield to maturity. 
A)  If rates fall after its issue, a zero coupon bond could trade at a price above its par value. 
B)  If rates fall rapidly, a zero coupon bond's expected appreciation could become negative. 
C)  If a firm moves from a position of strength toward financial distress, its bonds' yield to maturity would probably decline. 
D)  If a bond is selling at a premium, this implies that its yield to maturity exceeds its coupon rate. 
E)  If a coupon bond is selling at par, its current yield equals its yield to maturity.

Question 9

Cornwall Corporation is planning to raise $1,000,000 to finance a new plant.Which of the following statements is CORRECT?

Accepted Answer

A)  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. 
B)  If two tiers of debt are used (with one senior and one subordinated debt class), 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, 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. 
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. 
A)  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. 
B)  If two tiers of debt are used (with one senior and one subordinated debt class), 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, 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. 
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 10

Bonds A and B are 15-year, $1,000 face value bonds.Bond A has a 7% annual coupon, while Bond B has a 9% annual coupon.Both bonds have a yield to maturity of 8%, which is expected to remain constant for the next 15 years.Which of the following statements is CORRECT?

Accepted Answer

A)  One year from now, Bond A's price will be higher than it is today. 
B)  Bond A's current yield is greater than 8%. 
C)  Bond A has a higher price than Bond B today, but one year from now the bonds will have the same price. 
D)  Both bonds have the same price today, and the price of each bond is expected to remain constant until the bonds mature. 
E)  Bond B has a higher price than Bond A today, but one year from now the bonds will have the same price. 
A)  One year from now, Bond A's price will be higher than it is today. 
B)  Bond A's current yield is greater than 8%. 
C)  Bond A has a higher price than Bond B today, but one year from now the bonds will have the same price. 
D)  Both bonds have the same price today, and the price of each bond is expected to remain constant until the bonds mature. 
E)  Bond B has a higher price than Bond A today, but one year from now the bonds will have the same price.

Question 11

Sommers Co.'s bonds currently sell for $1,080 and have a par value of $1,000.They pay a $100 annual coupon and have a 15-year maturity, but they can be called in 5 years at $1,125.What is their yield to maturity (YTM)?

Accepted Answer

A)  8.56% 
B)  9.01% 
C)  9.46% 
D)  9.93% 
E)  10.43% 
A)  8.56% 
B)  9.01% 
C)  9.46% 
D)  9.93% 
E)  10.43%

Question 12

Which of the following statements is CORRECT?

Accepted Answer

A)  If a 10-year, $1,000 par, 10% coupon bond were issued at par, and if interest rates then dropped to the point where rd = YTM = 5%, we could be sure that the bond would sell at a premium above its $1,000 par value. 
B)  Other things held constant, a corporation would rather issue noncallable bonds than callable bonds. 
C)  Other things held constant, a callable bond would have a lower required rate of return than a noncallable bond. 
D)  Reinvestment rate risk is worse from an investor's standpoint than interest rate price risk if the investor has a short investment time horizon. 
E)  If a 10-year, $1,000 par, zero coupon bond were issued at a price that gave investors a 10% yield to maturity, and if interest rates then dropped to the point where rd = YTM = 5%, the bond would sell at a premium over its $1,000 par value. 
A)  If a 10-year, $1,000 par, 10% coupon bond were issued at par, and if interest rates then dropped to the point where rd = YTM = 5%, we could be sure that the bond would sell at a premium above its $1,000 par value. 
B)  Other things held constant, a corporation would rather issue noncallable bonds than callable bonds. 
C)  Other things held constant, a callable bond would have a lower required rate of return than a noncallable bond. 
D)  Reinvestment rate risk is worse from an investor's standpoint than interest rate price risk if the investor has a short investment time horizon. 
E)  If a 10-year, $1,000 par, zero coupon bond were issued at a price that gave investors a 10% yield to maturity, and if interest rates then dropped to the point where rd = YTM = 5%, the bond would sell at a premium over its $1,000 par value.

Question 13

You are considering 2 bonds that will be issued tomorrow.Both are rated triple B (BBB, the lowest investment-grade rating), both mature in 20 years, both have a 10% coupon, neither can be called except for sinking fund purposes, and both are offered to you at their $1,000 par values.However, Bond SF has a sinking fund while Bond NSF does not.Under the sinking fund, the company must call and pay off 5% of the bonds at par each year.The yield curve at the time is upward sloping.The bond's prices, being equal, are probably not in equilibrium, as Bond SF, which has the sinking fund, would generally be expected to have a higher yield than Bond NSF.

Accepted Answer

A) True 
 B)False

Question 14

A bond that had a 20-year original maturity with 1 year left to maturity has more interest rate price risk than a 10-year original maturity bond with 1 year left to maturity.(Assume that the bonds have equal default risk and equal coupon rates, and they cannot be called.)

Accepted Answer

A) True 
 B)False

Question 15

Which of the following statements is CORRECT?

Accepted Answer

A)  If their maturities and other characteristics were the same, a 5% coupon bond would have more interest rate price risk than a 10% coupon bond. 
B)  A 10-year coupon bond would have more reinvestment rate risk than a 5-year coupon bond, but all 10-year coupon bonds have the same amount of reinvestment rate risk. 
C)  A 10-year coupon bond would have more interest rate price risk than a 5-year coupon bond, but all 10-year coupon bonds have the same amount of interest rate price risk. 
D)  If their maturities and other characteristics were the same, a 5% coupon bond would have less interest rate price risk than a 10% coupon bond. 
E)  A zero coupon bond of any maturity will have more interest rate price risk than any coupon bond, even a perpetuity. 
A)  If their maturities and other characteristics were the same, a 5% coupon bond would have more interest rate price risk than a 10% coupon bond. 
B)  A 10-year coupon bond would have more reinvestment rate risk than a 5-year coupon bond, but all 10-year coupon bonds have the same amount of reinvestment rate risk. 
C)  A 10-year coupon bond would have more interest rate price risk than a 5-year coupon bond, but all 10-year coupon bonds have the same amount of interest rate price risk. 
D)  If their maturities and other characteristics were the same, a 5% coupon bond would have less interest rate price risk than a 10% coupon bond. 
E)  A zero coupon bond of any maturity will have more interest rate price risk than any coupon bond, even a perpetuity.

Question 16

Assume that the current corporate bond yield curve is upward sloping.Under this condition, then we could be sure that

Accepted Answer

A)  The economy is not in a recession. 
B)  Long-term bonds are a better buy than short-term bonds. 
C)  Maturity risk premiums could help to explain the yield curve's upward slope. 
D)  Long-term interest rates are more volatile than short-term rates. 
E)  Inflation is expected to decline in the future. 
A)  The economy is not in a recession. 
B)  Long-term bonds are a better buy than short-term bonds. 
C)  Maturity risk premiums could help to explain the yield curve's upward slope. 
D)  Long-term interest rates are more volatile than short-term rates. 
E)  Inflation is expected to decline in the future.

Question 17

As a general rule, a company's debentures have higher required interest rates than its mortgage bonds because mortgage bonds are backed by specific assets while debentures are unsecured.

Accepted Answer

A) True 
 B)False

Question 18

Assuming all else is constant, which of the following statements is CORRECT?

Accepted Answer

A)  For any given maturity, a 1.0 percentage point decrease in the market interest rate would cause a smaller dollar capital gain than the capital loss stemming from a 1.0 percentage point increase in the interest rate. 
B)  From a corporate borrower's point of view, interest paid on bonds is not tax-deductible. 
C)  Price sensitivity as measured by the percentage change in price due to a given change in the required rate of return decreases as a bond's maturity increases. 
D)  For a bond of any maturity, a 1.0 percentage point increase in the market interest rate (rd) causes a larger dollar capital loss than the capital gain stemming from a 1.0 percentage point decrease in the interest rate. 
E)  A 20-year zero coupon bond has more reinvestment rate risk than a 20-year coupon bond. 
A)  For any given maturity, a 1.0 percentage point decrease in the market interest rate would cause a smaller dollar capital gain than the capital loss stemming from a 1.0 percentage point increase in the interest rate. 
B)  From a corporate borrower's point of view, interest paid on bonds is not tax-deductible. 
C)  Price sensitivity as measured by the percentage change in price due to a given change in the required rate of return decreases as a bond's maturity increases. 
D)  For a bond of any maturity, a 1.0 percentage point increase in the market interest rate (rd) causes a larger dollar capital loss than the capital gain stemming from a 1.0 percentage point decrease in the interest rate. 
E)  A 20-year zero coupon bond has more reinvestment rate risk than a 20-year coupon bond.

Question 19

Which of the following statements is CORRECT?

Accepted Answer

A)  The market value of a bond will always approach its par value as its maturity date approaches.This holds true even if the firm has filed for bankruptcy. 
B)  Rising inflation makes the actual yield to maturity on a bond greater than a quoted yield to maturity that is based on market prices. 
C)  The yield to maturity on a coupon bond that sells at its par value consists entirely of a current interest yield; it has a zero expected capital gains yield. 
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)  The yield to maturity for a coupon bond that sells at a premium consists entirely of a positive capital gains yield; it has a zero current interest yield. 
A)  The market value of a bond will always approach its par value as its maturity date approaches.This holds true even if the firm has filed for bankruptcy. 
B)  Rising inflation makes the actual yield to maturity on a bond greater than a quoted yield to maturity that is based on market prices. 
C)  The yield to maturity on a coupon bond that sells at its par value consists entirely of a current interest yield; it has a zero expected capital gains yield. 
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)  The yield to maturity for a coupon bond that sells at a premium consists entirely of a positive capital gains yield; it has a zero current interest yield.

Question 20

Nicholas Industries can issue a 20-year bond with a 6% annual coupon.This bond is not convertible, is not callable, and has no sinking fund.Alternatively, Nicholas could issue a 20-year bond that is convertible into common equity, may be called, and has a sinking fund.Which of the following most accurately describes the coupon rate that Nicholas would have to pay on the convertible, callable bond?

Accepted Answer

A)  It could be less than, equal to, or greater than 6%. 
B)  Greater than 6%. 
C)  Exactly equal to 8%. 
D)  Less than 6%. 
E)  Exactly equal to 6%. 
A)  It could be less than, equal to, or greater than 6%. 
B)  Greater than 6%. 
C)  Exactly equal to 8%. 
D)  Less than 6%. 
E)  Exactly equal to 6%.

Exam 5: Bonds, Bond Valuation, and Interest Rates

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 NOT CORRECT?

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

Cornwall Corporation is planning to raise $1,000,000 to finance a new plant.Which of the following statements is CORRECT?

Bonds A and B are 15-year, $1,000 face value bonds.Bond A has a 7% annual coupon, while Bond B has a 9% annual coupon.Both bonds have a yield to maturity of 8%, which is expected to remain constant for the next 15 years.Which of the following statements is CORRECT?

Sommers Co.'s bonds currently sell for $1,080 and have a par value of $1,000.They pay a $100 annual coupon and have a 15-year maturity, but they can be called in 5 years at $1,125.What is their yield to maturity (YTM)?

Which of the following statements is CORRECT?

A bond that had a 20-year original maturity with 1 year left to maturity has more interest rate price risk than a 10-year original maturity bond with 1 year left to maturity.(Assume that the bonds have equal default risk and equal coupon rates, and they cannot be called.)

Which of the following statements is CORRECT?

Assume that the current corporate bond yield curve is upward sloping.Under this condition, then we could be sure that

As a general rule, a company's debentures have higher required interest rates than its mortgage bonds because mortgage bonds are backed by specific assets while debentures are unsecured.

Assuming all else is constant, which of the following statements is CORRECT?

Which of the following statements is CORRECT?

An Overview of Financial Management and the Financial Environment

Financial Statements, Cash Flow, and Taxes

Analysis of Financial Statements

Time Value of Money

Risk and Return

Corporate Valuation and Stock Valuation

Financial Options and Applications in Corporate Finance

The Cost of Capital

The Basics of Capital Budgeting: Evaluating Cash Flows

Cash Flow Estimation and Risk Analysis

Corporate Valuation and Financial Planning

Corporate Governance

Distributions to Shareholders: Dividends and Repurchases

Capital Structure Decisions

Supply Chains and Working Capital Management

Multinational Financial Management

Public and Private Financing: Initial Offerings, Seasoned Offerings, and Investment Banks

Lease Financing

Hybrid Financing: Preferred Stock, Warrants, and Convertibles

Dynamic Capital Structures and Corporate Valuation

Mergers and Corporate Control

Enterprise Risk Management

Bankruptcy, Reorganization, and Liquidation

Portfolio Theory and Asset Pricing Models

Real Options

Providing and Obtaining Credit

Advanced Issues in Cash Management and Inventory Control

Pension Plan Management

Financial Management in Not-For-Profit Businesses

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