Question 1

A putable bond can be redeemed at par value at the holder's option.Usually, the put option can be exercised only if the issuer takes some specific action, such as significantly increasing debt.

Accepted Answer

A putable bond can be redeemed at par value at the holder's option, but this option is typically not contingent on the issuer taking specific actions like increasing debt; it is at the discretion of the bondholder.

Question 2

Preferred stockholders have priority over common stockholders with respect to earnings.Dividends must be paid on preferred stock before they can be paid on common stock.In exchange for this priority to dividends, preferred stockholders give up their priority claims to common stockholders in the event of bankruptcy.

Accepted Answer

Preferred stockholders have priority over common stockholders with respect to dividends, but they also typically have priority in the event of bankruptcy, not the other way around.

Question 3

Restrictive covenants are designed so as to protect both the bondholder and the issuer even though they may constrain the actions of the firm's managers.Such covenants are contained in the bond's indenture.

Accepted Answer

Restrictive covenants are indeed designed to protect both the bondholder and the issuer and are typically included in the bond's indenture.

Question 4

Although common stock represents a riskier investment to an individual than do bonds, in the sense of exposing the firm to the risk of bankruptcy, bonds represent a riskier method of financing to a corporation than does common stock.

Accepted Answer

Bonds represent a riskier method of financing to a corporation than does common stock as they require regular interest payments and have a fixed maturity date, whereas common stock does not have an obligation for the company to make payments and has no maturity date. If the company fails to make the interest payments or repay the principal amount, it can lead to default and bankruptcy.

Question 5

A proxy fight involves a battle by a shareholder or group of shareholders who seek to change the investment policy of the firm.If the proxy group is successful, current management retains control of the firm but the proxy group dictates what investments the firm makes.

Accepted Answer

If the proxy group is successful, they gain control of the firm and can replace the current management with their own chosen leaders to make investment decisions.

Question 6

A zero coupon bond's value increases over time at a compounded (or exponential) rate, not at a constant (or linear) rate.The corporate issuer reports the annual increase as interest expense, and the owner of the bond reports the increase as interest income and pays taxes on it each year.

Accepted Answer

Zero coupon bond's value increases at a compounded rate and the issuer reports the annual increase as interest expense, while the owner reports it as interest income and pays taxes on it.

Question 7

One of the disadvantages to a firm in issuing zero coupon bonds is that the tax shield associated with the bonds' appreciation cannot be claimed until the bond matures.

Accepted Answer

The tax shield associated with the interest expense of zero coupon bonds is recognized annually, even though the interest is not paid until maturity, because the issuer can deduct the imputed interest expense each year for tax purposes.

Question 8

Firms generally do not call their convertibles unless their conversion value is greater than their call price.

Accepted Answer

Firms generally call their convertibles when the conversion value is greater than their call price. This allows them to convert the debt into equity and benefit from potential stock price appreciation.

Question 9

Convertible securities are bonds or preferred stocks that, under specified terms and conditions, can be exchanged for common stock at the option of the holder.

Accepted Answer

Convertible securities do have the option for the holder to exchange them for common stock, as specified in the terms and conditions.

Question 10

From a social welfare perspective, common stock is a desirable form of financing in part because it involves no fixed charge payments.Its inclusion in a firm's capital structure makes the firm less vulnerable to the consequences of unanticipated declines in sales and earnings than if only debt were available.

Accepted Answer

Common stock does not involve fixed charge payments, which can be beneficial for a firm in the event of a decline in sales or earnings. This can make the firm less vulnerable compared to relying solely on debt financing.

Question 11

An indexed bond has its value tied to an inflation index.As inflation increases the value of the bond increases and the issuer is responsible for the accumulated value which may become much greater than the original face value.

Accepted Answer

The answer of An indexed bond has its value tied...

Question 12

Preferred stock can provide a financing alternative for some firms when market conditions are such that those firms can issue neither pure debt nor common stock at reasonable cost.

Accepted Answer

Preferred stock is a type of equity financing that has characteristics of both debt and common stock. It pays a fixed dividend like debt, but also represents ownership in the company like common stock. If market conditions make it difficult or expensive for a firm to issue pure debt or common stock, preferred stock may be a viable alternative.

Question 13

LIBOR is an acronym for London Interbank Offer Rate, which is an average of interest rates offered by London banks to U.S.corporations.

Accepted Answer

LIBOR is an average of interest rates offered by London banks to other banks, not specifically to U.S. corporations.

Question 14

As with common stock, preferred stock always has a par value, and also, like common stock, the par value is unimportant in the event of liquidation.However, the preferred stock dividend does depend on the par value and the dividend is usually stated as a percentage of par.

Accepted Answer

The answer of As with common stock, preferred stock always...

Question 15

A Eurodollar is a U.S.dollar deposited in a bank outside the United States.

Accepted Answer

Eurodollars are U.S. dollars deposited in banks outside the United States, mainly in Europe.

Question 16

Income bonds pay interest only when the amount of the interest is actually earned by the company.Thus, these securities cannot bankrupt a company and this makes them safer than regular bonds.

Accepted Answer

This statement is incorrect. Income bonds are actually riskier than regular bonds because the interest payments are not guaranteed and depend on the company's earnings. If the company does not earn enough to pay the interest, then the bondholders may not receive any income at all. This means that income bonds can potentially bankrupt a company if it is unable to pay the interest.

Question 17

The Eurodollar market is essentially a long-term market; most loans and deposits have maturities of longer than one year.

Accepted Answer

The Eurodollar market is a short-term market where loans and deposits usually have maturities of less than one year.

Question 18

The interest rate paid on Eurodollar deposits depends on the particular bank's lending rate and on rates of return available on U.S.money market instruments.

Accepted Answer

The interest rate paid on Eurodollar deposits is influenced by the bank's lending rate and the rates of return on U.S. money market instruments.

Question 19

"Treasury zeros" are Treasury bonds that have been split or "stripped" into a zero coupon discount Treasury certificate and a series of interest payments (the coupon payments).These bonds are safer than corporate zeros and thus, are very popular with institutional investors such as pension fund managers.

Accepted Answer

Treasury zeros are indeed Treasury bonds that have been split into a zero coupon discount Treasury certificate and a series of interest payments. They are considered safer than corporate zeros and are popular among institutional investors.

Question 20

A convertible debenture cannot be worth more than its conversion value or less than its bond value.

Accepted Answer

A convertible debenture can be worth more than its conversion value if its market value exceeds its bond value due to factors such as changes in interest rates or the issuer's creditworthiness. Additionally, it can be worth less than its bond value if the conversion option is out of the money and the debenture is trading purely based on its bond-like characteristics.

Quiz 2: Financial Assets Instruments