Chapter 19 Flashcards
1) When a corporation has only one class of shares, which of the following is not one of the rights of shareholders?
a) To vote at any shareholder meeting of the corporation.
b) To vote at any director meeting of the corporation.
c) To receive any dividend declared by the corporation.
d) To receive any residual property of the corporation on dissolution.
b
2) The following may or may not be in a list of shareholders’ rights. Choose the letter that corresponds to the correct list of rights:
1. Share in dividends 6. Examine the company records
2. Elect directors 7. Priority over unsecured junior
3. Appoint managers debt
4. Vote in general meetings 8. Issue new dividends
5. Vote in directors’ meetings 9. Declare a stock split
a) 1, 2, 3, 5, 8
b) 1, 2, 3, 5, 8, 9
c) 1, 2, 4, 6
d) 1, 2, 6, 9
c
3) Which of the following statements about family trusts is true?
a) Family trusts separate ownership and control.
b) Income flows to the trust beneficiaries.
c) The trustees retain the voting power.
d) All of the above statements are not true.
d
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7) Residual owners are:
a) Bond holders
b) Equity holders
c) Equity and preferred shareholders
d) All of the above
b
8) Which of the following statements about dividends is true?
a) Dividends are paid before interest is paid
b) Dividends received by Canadian households are taxed at the marginal personal tax rate
c) Dividends are tax deductible.
d) Dividends received by one Canadian corporation from another Canadian corporation are not taxed.
d
9) Use the following statements to answer this question:
I. Today, the preemptive right is always used by corporations to protect their investors from dilution.
II. A common stock has the characteristics of a call option because it has unlimited upside potential.
a) I and II are correct
b) I and II are incorrect
c) I is correct and II is incorrect
d) I is incorrect and II is correct
d
10) Preferred shares are __________ financing.
a) a form of debt
b) a form of equity
c) a combined form of debt and equity
d) different from debt and equity
b
11) In the event of liquidation, preferred shareholders rank ahead of:
a) subordinated debt holders
b) secured debt
c) common shareholders
d) debentures
c
12) Which one of the following is the reason for paying a different price for different classes of shares in the case of a takeover?
a) Prices depend on the tax treatment of each class.
b) Prices depend on the dividend yield offered by the class.
c) Prices depend on the voting rights of the shares.
d) Prices depend on the floating of shares.
c
13) How would you price preferred shares?
a) As an annuity
b) As a growing annuity due
c) As a perpetuity
d) As a growing perpetuity
c
14) Use the following statements to answer this question:
I. A retractable preferred share can be sold back to the issuer.
II. Preferred shares provide a benefit for taxes given that dividend income receives preferential tax treatment as compared to interest income.
a) I and II are correct
b) I and II are incorrect
c) I is correct and II is incorrect
d) I is incorrect and II is correct
a
15) When dividends that have been in arrears are paid, the preferred shares have a __________ provision.
a) participating
b) cumulative
c) non-cumulative
d) retractable
b
16) The retraction feature:
a) protects the issuer from interest-rate risk
b) allows the shareholder to sell it to the issuer at an early maturity date.
c) allows the issuer to buy it back from the shareholder at an early maturity date.
d) protects both the shareholder and the issuer regardless of the interest rates.
b
17) Interest rates have gone up to 14 percent since you purchased your 10 percent preferred shares. You would be best off if the shares had a(n) __________ feature.
a) call
b) extraction
c) redemption
d) retraction
d
18) Which of the following characteristics apply to straight preferred shares?
I. No maturity date
II. Pay a fixed dividend
III. Dividends are paid at regular intervals
IV. Have a positive yield spread over long Canada bonds
V. The right to sell them back to the issuer
a) I and II
b) I, II, and III
c) I, II, III, and IV
d) I, II, IV, and V
c
19) What is the tax value of money?
a) The difference between your before-tax and after-tax earnings.
b) The tax rate multiplied by the total income reported to the government.
c) Accounting for the fact that dividends are taxed more favourably than is interest income.
d) Accounting for the fact that dividends are not taxed while interest income is taxable.
c
20) Which of the following characteristics apply to retractable preferred shares?
I. No maturity date
II. Pay a fixed dividend at regular intervals
III. Have a negative yield spread (before tax) over mid-term Canada bonds
IV. The right to sell them back to the issuer
a) I and II
b) I, II, and III
c) I, II, III, and IV
d) II, III, and IV
d
21) Which of the following characteristics apply to floating rate preferred shares?
I. Long maturity date
II. Pay a fixed dividend
III. Dividends are paid at regular intervals
IV. Have a positive yield spread (after tax) over bankers’ acceptances
V. The right to sell them back to the issuer
a) I and II
b) I, II, and III
c) III, IV, and V
d) I, III and IV
d
22) In which of the following ways are some preferred shares similar to bonds? I. Call provisions II. Convertible features III. Retraction provisions IV. Rated by rating agencies
a) I, II, and III
b) I, II, and IV
c) II and III
d) I, II, III, and IV
d
23) In which of the following ways do warrants differ from call options?
I. Warrants impact the firm while call options do not.
II. Call options have shorter maturities than warrants.
III. Any profit received from call options is taxable while that from warrants is not taxable.
IV. Volatility increases the value of call options but makes warrants less valuable.
V. The longer maturities of warrants make them less valuable.
a) I, II, and III
b) I, III, and V
c) II, IV, and V
d) I and II
d
24) A company has 20 million shares outstanding that are trading at $30 per share. The company has 2 million warrants outstanding that have an exercise price of $28 per share. What is the payoff to the warrant holders exercising them, rounded to the nearest dollar?
a) $3,636,364
b) $ 2,800,000
c) – $3,636,364
d) $6,000,000
Answer: a, m = 2 million, n = 20 million, V = $30 x 20 million = $600 million, S = $30, X = $28
A. m / (n + m) * (V – (n * X)) = 2 / (22) * (600 – (20*28)) = $3,636,364
25) Issuing bonds plus warrants is similar to issuing:
a) Retractable bonds
b) Convertible bonds
c) Floating rate bonds
d) Preferred shares
b
26) Warrants are similar to call options on stocks. What’s the equivalent of the strike price?
a) The initial price of the warrant
b) The market price of the warrant
c) The price of exercise of the warrant
d) None of the above
c
27) Use the following statements to answer this question:
I. A warrant’s value is due, in part, to its long-term maturity.
II. The intrinsic value of a warrant does not depend on the volatility of the stock.
a) I and II are correct
b) I and II are incorrect
c) I is correct and II is incorrect
d) I is incorrect and II is correct
c
28) Which of the following support the rationale for issuing convertible bonds?
a) To reduce underwriting costs
b) To permit cheaper initial financing
c) To minimize dilution
d) All of the above are good reasons for issuing convertible bonds
d
29) The ______________ specifies the number of shares received for each convertible bond.
a) conversion price
b) subscription price
c) conversion ratio
d) subscription ratio
c
30) Which of the following is true regarding convertible bonds?
a) The convertible bond value is unrelated to the value of the stock.
b) The value of convertible debt is a function of the risk of default.
c) The conversion factor can be separated from the bond and sold separately to other investors.
d) When a bond is converted into stock, the company receives additional funds as part of the conversion.
b
31) Hudson Bay Fishing Corporation has issued bonds that can be converted into common shares when the share price is $50. The current market price of the stock is $35. The bond has a face value of $1,000 and currently sells for $975. What is the conversion ratio for this bond?
a) 20
b) 28.6
c) 24.4
d) 27.9
Answer: a, $1000 / 50 = 20
32) The conversion premium is defined as which of the following?
a) The number of shares that a convertible security can be exchanged for.
b) The price at which a convertible security can be converted into common shares.
c) The value of a convertible security if it is immediately converted into common shares.
d) The percentage difference between the value at which the bonds are trading and their conversion value
d
33) The price at which a convertible bond would sell for if it could not be converted into common stock is called:
a) Floor value
b) Straight bond value
c) Convertible bond value
d) Conversion value
b
34) Which of the following statements regarding convertible bonds is true?
a) The floor value is the lowest price for which a convertible bond will be sold.
b) The convertible bond’s floor value is determined by the maximum of the straight bond value and the conversion value.
c) If the share price rises above the conversion price, investors will convert the bonds.
d) All of the above statements are true.
c
35) A 12% coupon bond has 20 years to maturity when market rates on similar non-convertible bonds are 9.25%. It is convertible into 20 common shares and has a $1,000 par value. The shares are currently trading at $40. What is the straight bond value, assuming it pays annual coupons?
a) $1,247
b) $1,000
c) $1,207
d) $1,287
Answer: a, PMT = -120, N = 20, FV = -1000, I/Y = 9.25%, compute PV = $1,247
36) A 12% coupon bond has 20 years to maturity when market rates on similar non-convertible bonds are 9.25%. It is convertible into 20 common shares and has a $1,000 par value. The shares are currently trading at $40. What is the floor value of the bond, assuming it pays annual coupons?
a) $1,247
b) $1,000
c) $800
d) $2,000
Answer: a, Floor value = max [PMT = -120, N = 20, FV = -1000, I/Y = 9.25%, compute PV = $1,247, 20*40 = 800] = $1,247
37) A 10% semiannual coupon bond has 10 years to maturity when market rates on similar non-convertible bonds are 8.5%. It is convertible into 40 common shares and has a $1,000 par value. The shares are currently trading at $30. What is the floor value of the bond, assuming it pays semi-annual coupons?
a) $2,000
b) $1,100
c) $1,200
d) $1,000
Answer: c, Floor value=max(straight bond value, CV) where CV=CRmarket price
PMT = -50, N = 20, FV = -1000, I/Y = 4.25%, compute PV = $1,099.71
CV=4030=1,200
Floor value=1,200
38) Which of the following factors are considered when determining whether a security is debt or equity? I. Permanence factor II. Subordination factor III. Objective factor IV. Legal factor V. Subjective factor
a) I and II
b) I, II, and III
c) I, II, and IV
d) I, II, IV, and V
d
39) If you are to allocate the amount of hard retractable preferred shares in the financial statements, where would they go?
a) Assets
b) Liabilities
c) Ownership equity
d) None of the above
b
40) If you are to allocate the amount of soft retractable preferred shares in the financial statements, where would they go?
a) Assets
b) Liabilities
c) Ownership equity
d) None of the above
c
41) Which of the following is the hard retraction requirement?
a) The preferred shares must be paid off with common shares or other preferred shares.
b) The preferred shares must be paid off with cash.
c) The preferred shares must be paid off within 30 days of retraction.
d) The preferred shares can only be retracted in cases of financial distress.
b
42) Which of the following statements regarding income bonds is/are true?
a) They appear similar to debt but are closer to equity.
b) They are generally issued after a reorganization.
c) The interest is tied to some level of the cash flow of the firm.
d) All of the above statements are true
d
43) Which of the following is not an example of an indexed bond?
a) Commodity bond
b) Real return bond
c) Income bond
d) Callable bond
d
44) Which of the following securities provides a firm with results similar to those of a real return bond?
a) Adjustable rate convertible subordinated securities
b) Liquid yield option notes
c) Income bond
d) Original issue discount bond
d
45) Rank the risk of the following securities from lowest to highest. I. Long-term unsecured debt II. Convertible preferred shares III. Common equity IV. Bank loans
a) I, II, III, IV
b) IV, III, II, I
c) I, II, IV, III
d) IV, I, II, III
d
