Question 1

A security whose payoffs (returns) depend on the value of another security is known as a(n) ____.

Accepted Answer

A)  interest rate swap 
B)  master limited partnership 
C)  contingent claim 
D)  extendible note 
A)  interest rate swap 
B)  master limited partnership 
C)  contingent claim 
D)  extendible note C

Question 2

All other things being equal, the ____ the exercise price, given the stock price, the ____ is the call option value.

Accepted Answer

A)  higher; higher 
B)  higher; lower 
C)  lower; lower 
D)  lower; higher 
A)  higher; higher 
B)  higher; lower 
C)  lower; lower 
D)  lower; higher B

Question 3

All except which of the following are reasons why companies issue convertible securities?

Accepted Answer

A)  Cheaper total cost than nonconvertible securities 
B)  Lower interest payments than nonconvertible securities 
C)  Sell common stock at a price above current market price 
D)  Deferred issuance of common stock 
A)  Cheaper total cost than nonconvertible securities 
B)  Lower interest payments than nonconvertible securities 
C)  Sell common stock at a price above current market price 
D)  Deferred issuance of common stock A

Question 4

The conversion ratio of a convertible security is the ____.

Accepted Answer

A)  number of shares that can be obtained 
B)  value of the shares obtained 
C)  price at which the security is exchangeable 
D)  loss in the security's value once it is exchanged 
A)  number of shares that can be obtained 
B)  value of the shares obtained 
C)  price at which the security is exchangeable 
D)  loss in the security's value once it is exchanged

Question 5

The ____ the time remaining before an option expires, the ____ the option value.

Accepted Answer

A)  longer; lower 
B)  shorter; higher 
C)  longer; higher 
D)  shorter; lower 
A)  longer; lower 
B)  shorter; higher 
C)  longer; higher 
D)  shorter; lower

Question 6

The value of the right can be calculated under which one of the following circumstances?

Accepted Answer

A)  Using the Gordon model 
B)  Trading ex-rights 
C)  Market order 
D)  Based on a margin account 
A)  Using the Gordon model 
B)  Trading ex-rights 
C)  Market order 
D)  Based on a margin account

Question 7

The capital structure of Springmaid Company is as follows: $$\begin{array} { l r } 
\text { Long-term debt } & \$ 400 \text { million } \
\text { Common stock, } \$ 1 \text { par } & 50 \text { million } \
\text { Contributed capital in excess of par } & 250 \text { million } \
\text { Retained earnings } & 600 \text { million } \
\text { Total } & \$ 1,300 \text { million }
\end{array}$$ ? The company has decided to raise additional capital by selling $100 million of 8% debentures with warrants attached. Each $1,000 debenture will have 40 warrants attached, and each warrant will entitle the holder to purchase one share of common stock at $20. Assume that no other changes in the capital structure occur between now and the time the warrants are exercised. Determine how much total capital the company will raise as a result of the issuance of debentures with warrants attached (after exercise of the warrants).

Accepted Answer

A)  $100 million 
B)  $80 million 
C)  $180 million 
D)  $20 million 
A)  $100 million 
B)  $80 million 
C)  $180 million 
D)  $20 million

Question 8

All of the following are reasons why firms issue warrants EXCEPT ____.

Accepted Answer

A)  to lower agency costs 
B)  to increase leverage at time of issue 
C)  to permit a company to sell common stock at a price above the price prevailing at the time of warrant issue 
D)  to allow a firm to sell common stock in the future without incurring underwriting costs at the time of sale 
A)  to lower agency costs 
B)  to increase leverage at time of issue 
C)  to permit a company to sell common stock at a price above the price prevailing at the time of warrant issue 
D)  to allow a firm to sell common stock in the future without incurring underwriting costs at the time of sale

Question 9

The preemptive right allows shareholders the ____.

Accepted Answer

A)  opportunity to maintain their original ownership percentage 
B)  right to purchase shares in the secondary markets 
C)  right to vote for members of the board of directors 
D)  All of these are correct 
A)  opportunity to maintain their original ownership percentage 
B)  right to purchase shares in the secondary markets 
C)  right to vote for members of the board of directors 
D)  All of these are correct

Question 10

The difference between the market value of a convertible bond and the higher of its conversion or straight-bond value is the ____ premium.

Accepted Answer

A)  exercise 
B)  investment 
C)  conversion 
D)  liquidation 
A)  exercise 
B)  investment 
C)  conversion 
D)  liquidation

Question 11

Graybar recently sold a convertible bond with a $1,000 par value for a flotation cost of 2% (each bond produced $980 for the firm). What is the conversion price if the conversion ratio is 22?

Accepted Answer

A)  $44.55 
B)  $45.45 
C)  $50.00 
D)  $4.45 
A)  $44.55 
B)  $45.45 
C)  $50.00 
D)  $4.45

Question 12

JDH Inc. presently has warrants outstanding that expire 5 years from today. Each warrant entitles the holder to purchase 2 shares of the company's common stock at an exercise price of $30 a share. The warrants currently are trading at $4 each, and the JDH common stock currently is trading at $28 a share. Calculate the warrants' formula value.

Accepted Answer

A)  -$4.00 
B)  -$2.00 
C)  $0.00 
D)  $2.00 
A)  -$4.00 
B)  -$2.00 
C)  $0.00 
D)  $2.00

Question 13

The conversion premium of a convertible bond tends to be ____ when the conversion value is ____ the straight-bond value.

Accepted Answer

A)  smallest; nearly equal to 
B)  largest; less than 
C)  largest; greater than 
D)  largest; nearly equal to 
A)  smallest; nearly equal to 
B)  largest; less than 
C)  largest; greater than 
D)  largest; nearly equal to

Question 14

A ____ is a fixed income security with a call option on common stock.

Accepted Answer

A)  convertible security 
B)  warrant 
C)  futures contract 
D)  derivative security 
A)  convertible security 
B)  warrant 
C)  futures contract 
D)  derivative security

Question 15

People Southwest Airlines (PSW) has warrants outstanding that have an exercise price of $10. Each warrant entitles the holder to purchase one share of PSW common stock. Last week PSW common stock was selling for $12 per share, and at the same time, the warrants traded at $5 each. Determine the formula value of PSW warrants.

Accepted Answer

A)  $0 
B)  $2 
C)  $5 
D)  $11 
A)  $0 
B)  $2 
C)  $5 
D)  $11

Question 16

During the life of conversion options, the conversion ratio is most likely to ____.

Accepted Answer

A)  increase 
B)  decrease 
C)  stay the same 
D)  fluctuate 
A)  increase 
B)  decrease 
C)  stay the same 
D)  fluctuate

Question 17

A(n) ____ is a fixed-income security issued by a company with a call option on its common stock.

Accepted Answer

A)  warrant 
B)  convertible debenture 
C)  lease 
D)  extendible note 
A)  warrant 
B)  convertible debenture 
C)  lease 
D)  extendible note

Question 18

A warrant has an exercise price of $15. The underlying common stock has a market price of $10. The formula value of a warrant would be ____.

Accepted Answer

A)  $5 
B)  $0 
C)  -$5 
D)  Cannot be determined from the information given 
A)  $5 
B)  $0 
C)  -$5 
D)  Cannot be determined from the information given

Question 19

Conversion premium is the amount by which the market value of a convertible security is higher than the ____. 
I. conversion value of the security
II. combined interest or dividend payments of the security

Accepted Answer

A)  Only statement I is correct. 
B)  Only statement II is correct. 
C)  Both statements I and II are correct. 
D)  Neither statement I nor II is correct. 
A)  Only statement I is correct. 
B)  Only statement II is correct. 
C)  Both statements I and II are correct. 
D)  Neither statement I nor II is correct.

Question 20

Which of the following are factors affecting the value of a call option?

Accepted Answer

A)  Time remaining until expiration date 
B)  Interest rates 
C)  Expected stock price volatility 
D)  All of these factors affect the value of a call option 
A)  Time remaining until expiration date 
B)  Interest rates 
C)  Expected stock price volatility 
D)  All of these factors affect the value of a call option

Exam 23: Financing With Derivatives

A security whose payoffs (returns) depend on the value of another security is known as a(n) ____.

All other things being equal, the ____ the exercise price, given the stock price, the ____ is the call option value.

All except which of the following are reasons why companies issue convertible securities?

The conversion ratio of a convertible security is the ____.

The ____ the time remaining before an option expires, the ____ the option value.

The value of the right can be calculated under which one of the following circumstances?

All of the following are reasons why firms issue warrants EXCEPT ____.

The preemptive right allows shareholders the ____.

The difference between the market value of a convertible bond and the higher of its conversion or straight-bond value is the ____ premium.

Graybar recently sold a convertible bond with a $1,000 par value for a flotation cost of 2% (each bond produced $980 for the firm). What is the conversion price if the conversion ratio is 22?

The conversion premium of a convertible bond tends to be ____ when the conversion value is ____ the straight-bond value.

A ____ is a fixed income security with a call option on common stock.

During the life of conversion options, the conversion ratio is most likely to ____.

A(n) ____ is a fixed-income security issued by a company with a call option on its common stock.

A warrant has an exercise price of $15. The underlying common stock has a market price of $10. The formula value of a warrant would be ____.

Conversion premium is the amount by which the market value of a convertible security is higher than the ____. I. conversion value of the security II. combined interest or dividend payments of the security

Which of the following are factors affecting the value of a call option?

The Role and Objective of Financial Management

The Domestic and International Financial Marketplace

Evaluation of Financial Performance

Financial Planning and Forecasting

The Time Value of Money

Continuous Compounding and Discounting

Fixed Income Securities: Characteristics and Valuation

Common Stock: Characteristics, Valuation, and Issuance

Analysis of Risk and Return

Capital Budgeting and Cash Flow Analysis

Mutually Exclusive Investments Having Unequal Lives

Capital Budgeting: Decision Criteria and Real Option Considerations

Capital Budgeting and Risk

The Cost of Capital

Capital Structure Concepts

Breakeven Analysis

Capital Structure Management in Practice

Dividend Policy

Working Capital Policy and Short-Term Financing

The Management of Cash and Marketable Securities

The Management of Accounts Receivable and Inventories

Lease and Intermediate Term Financing

Bond Refunding Analysis

Risk Management

International Financial Management

Corporate Restructuring

Filters

All other things being equal, the the exercise price, given the stock price, the is the call option value.

The the time remaining before an option expires, the the option value.

The conversion premium of a convertible bond tends to be when the conversion value is the straight-bond value.