Deck 16: Long-Term Debt and Lease Financing

Question 1

The value of bonds will move opposite interest rates.

Answer 1

True

Question 2

The call premium tends to increase with the passage of time.

Answer 2

False

Question 3

Bonds may be recalled only if there is a specific call provision in the bond.

Answer 3

True

Question 4

Under a sinking fund provision, money is set aside every year until the bond matures, then the money is used to repay the principal.

Question 5

Over the decades, the times interest earned ratio of the Standard and Poor's' 500 corporations has held fairly steady.

Question 6

The fact that interest payments on debt are fixed is both an advantage and a drawback.

Question 7

The call feature is usually advantageous to the bondholder.

Question 8

If a corporation offers greater protection to a given class of bondholders, it must raise the interest rate on its bonds to make them more attractive.

Question 9

An after-acquired property clause means that any new property acquired is placed under the original mortgage.

Question 10

Generally the greater the protection offered to a given class of bondholders, the higher will be the interest rate on the bonds.

Question 11

Long-term bond prices are more volatile than short-term bond prices given an equal percentage change in the interest rate.

Question 12

If you expect interest rates to go up, you should buy a long-term bond now.

Question 13

If a company has promised to pay interest on debt, it must pay the interest even if it shows no profit for the year, or else it may go bankrupt.

Question 14

When a company defaults on a secured debt, it is rare for the secured asset to be sold and the proceeds distributed to the debtor.

Question 15

Homebuilding companies, like
D.R. Horton Inc., realized significant losses in 2008-2009.

Question 16

Par value and maturity value on a bond generally are the same.

Question 17

A bond indenture is a bond with no specific collateral securing it.

Question 18

The yield to maturity is the internal rate of return on a bond.

Question 19

Debentures are commonly issued by small companies.

Question 20

Because of the legal problems associated with specific asset claims in a secured bond offering, the trend is for companies to issue more debentures.

Question 21

Zero-coupon bonds are sold at a deep discount primarily because investors are not interested in owning them.

Question 22

In an inflationary economy, debt must be paid back with "more expensive dollars."

Question 23

The prices of zero-coupon bonds tend to react violently to large swings in interest rates.

Question 24

A Eurobond is a bond payable in the borrower's currency but sold outside the borrower's country.

Question 25

During economic upswings, spreads between bonds of different ratings tend to widen.

Question 26

The primary advantage of investing in floating rate bonds is that the bonds will maintain a stable market value within a reasonable limit.

Question 27

As interest rates decline, bond refunding should become more common.

Question 28

The advantage of a zero-coupon bond to an investor is that the annual increase in the bond is taxable as ordinary income.

Question 29

Refunding a bond occurs when the company sells more bonds of the same series with maturity and coupon equal to the bonds sold earlier.

Question 30

A floating rate bond has a reasonably stable price but actual interest payments received change often over the life of the bond.

Question 31

Zero-coupon bonds are sold at face value.

Question 32

Costs of bond refunding are the call premium and the underwriting cost on the new bond issue.

Question 33

A bond can only be easily refunded if it has a call feature.

Question 34

A floating rate bond's price is inversely related to the changes in interest rates.

Question 35

The weighted average cost of capital is generally used as the discount rate in a bond-refunding decision.

Question 36

The payment of a call premium may generally be taken as an immediate tax write-off.

Question 37

When interest rates rise, bond refunding becomes quite popular.

Question 38

The difference between the initial bond price and the maturity value is amortized for tax purposes over the life of a zero-coupon bond.

Question 39

A bondholder may have paper losses as large as 30-40% or more at some point between the time of issue and redemption.

Question 40

The costs of bond refunding are the call premium, and the underwriting costs on the old and new bond issue.

Question 41

A capital lease is the same as an operating lease.

Question 42

The main cause for the increase in corporate debt in America is:

A) rapid business expansion.
B) inflationary impacts.
C) inadequate internally-raised funds.
D) All of these.

Question 43

The essence of the treatment of long-term, non-cancelable leases is the same as if the company had borrowed the money and bought the asset.

Question 44

A financial lease has many of the characteristics of a long-term debt obligation.

Question 45

A financing lease usually calls for an annual expense deduction equal to the lease payment.

Question 46

Corporate debt has

A) increased rapidly since World War II.
B) increased slowly since World War II.
C) held fairly steady over the last forty years.
D) none of these.

Question 47

Bonds provide stable pricing because they offer a fixed coupon rate and maturity date unlike stocks.

Question 48

Lease obligations currently appear only in the footnotes of U.S. corporate financial statements.

Question 49

The coupon rate of the bond varies indirectly with changes in interest rates.

Question 50

Senior debentures usually provide lower interest rates than junior secured debt.

Question 51

The term debenture refers to

A) long-term, secured debt.
B) long-term, unsecured debt.
C) the after-acquired property clause.
D) a 100-page document covering the specific terms of the offering.

Question 52

An operating lease is generally a long-term, non-cancelable obligation.

Question 53

Bond refunding is generally advantageous to the investor because they get a higher future interest rate.

Question 54

Which of the following bonds offers the most security to the bondholder?

A) Junior mortgage bonds
B) Senior mortgage bonds
C) Debenture bond
D) Income bond

Question 55

Leasing land provides a tax advantage to the lessee in that lease payments are tax deductible, while there is no deduction for depreciation for a landowner.

Question 56

The document that outlines the covenants and duties existing between bondholders and the issuing corporation is called

A) an indenture.
B) a debenture.
C) secured debt.
D) protective covenants.

Question 57

Many companies try to maintain investment grade status due to the significant yield differential when rated with a junk-bond status.

Question 58

Yield spreads between investment grade and junk bond ratings are usually greater during economic boom periods.

Question 59

The inclusion of leases on the balance sheet as an asset and liability has lowered firms' debt to asset ratio.

Question 60

The greater use of debt by corporations since the late 1960s is best shown by the

A) declining interest coverage ratio.
B) small amount of common stock sold.
C) rising cost of interest.
D) inability of earnings to keep up with the inflation.

Question 61

The dollar interest received divided by the market price of the bond is called the

A) par value.
B) coupon rate.
C) current yield.
D) yield to maturity.

Question 62

Which of the following is the lowest in priority of claims against a bankrupt firm?

A) A junior mortgage bond
B) A senior debenture
C) Common stock
D) A subordinated debenture

Question 63

A conversion feature allows:

A) the bondholder to redeem the bond before the maturity date.
B) the corporation to redeem the bond before the maturity date.
C) the bondholder to convert the bond to common stock.
D) the bondholder to demand increased collateral.

Question 64

A bond with a call provision would generally be sold to yield

A) less than a noncallable bond of similar character.
B) the same as a similar noncallable bond.
C) more than a noncallable bond of similar character.
D) the same as similar convertible bonds.

Question 65

The "call" provision on some bonds allows

A) the bondholder to redeem the bond earlier than maturity, but usually involves a call premium.
B) the corporation to request additional capital contributions from the bondholder.
C) the corporation to redeem the bonds earlier than maturity but usually for a premium over the par value.
D) the bondholder to convert the bond into preferred stock.

Question 66

Which of the following properly represents the hierarchy of creditor and stockholder claims?

A) Common stock, senior secured debt, subordinated debentures.
B) Preferred stock common stock, subordinated debentures.
C) Debentures preferred stock, common stock.
D) None of these is a valid hierarchy.

Question 67

Which of the following best represents the hierarchy of creditor and stockholder claims?

A) Common stock, senior secured debt, subordinated debentures.
B) Senior debentures, subordinated debentures, junior secured debt.
C) Senior secured debt, subordinated debentures, common stock.
D) Preferred stock, secured debt, debentures.

Question 68

Prices of existing bonds move _________ as market interest rates move ________.

A) down, down
B) up, up
C) up, down
D) Bond prices don't move as market interest rates move.

Question 69

A bond with a coupon rate of 6.5%, maturing in 10 years at a value of $1,000 and current market price of $695 will have a current yield of

A) 11.3%
B) 10.2%
C) 9.4%
D) 8.5%

Question 70

A debenture represents:

A) unsecured debt.
B) secured debt.
C) a long document covering every detail of a bond issue.
D) debt that is subordinate to preferred stock.

Question 71

With regard to interest rates and bond prices it can be said that

A) a 1% change in interest rates will cause a greater change in long-term bond prices than short-term prices.
B) a 1% change in interest rates will cause a greater change in short-term bond prices than long-term prices.
C) long-term rates are more volatile than short-term rates.
D) a decrease in interest rates will cause bond prices to fall.

Question 72

Short-term bond yields are generally ______ than long-term bond yields whereas long-term bond prices are generally ________ than short-term bond prices.

A) more volatile; less volatile
B) less volatile; more volatile
C) less volatile; less volatile
D) more volatile; more volatile

Question 73

Many bonds have some orderly, preplanned, alternative system of repayment. Which of the following apply?

A) Sinking funds
B) Serial bonds
C) Income bonds
D) a and b

Question 74

A call provision, which allows the corporation to force an early maturity on a bond issue, usually contains all but which of the following characteristics?

A) Most bonds must be outstanding at least 5 years before being called.
B) After the call date, the call premium tends to decline over time.
C) The provision typically calls for debt conversion into common stock.
D) The corporation will pay a premium over par for the bonds.

Question 75

A serial bond repayment plan involves a

A) lump-sum payment at maturity.
B) conversion of debt to common stock.
C) an early redemption of all debt.
D) series of installments to retire the debt over the life of the issue.

Question 76

Which of the following is not a form of yield on a bond?

A) coupon rate (nominal yield)
B) current yield
C) dividend yield
D) yield to maturity

Question 77

A call feature allows:

A) the bondholder to redeem the bond before the maturity date.
B) the corporation to redeem the bond before the maturity date.
C) the corporation to convert the bond to common stock.
D) the bondholder to demand increased collateral.

Question 78

An indenture is

A) the section of a corporation's bylaws pertaining to bond issues.
B) the summary of the essential features of a stock issue.
C) the contract between a corporation and a trustee acting for bondholders.
D) the underwriting contract.

Question 79

A "subordinated debenture"

A) must be transferred with the bond to which it is attached.
B) is used mainly by railroad companies and usually specifies equipment as collateral.
C) entitles the bondholder to purchase shares of common stock at a specific price.
D) is an unsecured bond with an inferior claim on assets in the event of liquidation.

Question 80

Buchanan Corp. is refunding $10 million worth of 10% debt. The new bonds will be issued for 8%. The corporation's tax rate is 35%. The call premium is 9%. What is the net cost of the call premium?

A) $390,000
B) $1,080,000
C) $585,000
D) $702,000