Intro to FINC Final

Question 1

What is an indenture?

Answer 1

A contract between the issuing firm and lenders (outlines the terms and conditions of the debt issue)

Question 2

What is a trustee?

Answer 2

The bondholders representative in a public debt offering. They are responsible for monitoring the borrowers compliance with the terms of the indenture

Question 3

What is a call feature

Answer 3

A provision to retire bond obligations before maturity.

Question 4

What is the sinking fund?

Answer 4

This fund is used to ensure debt payments can be met at maturity.

Question 5

What is the conversion feature?

Answer 5

Allows the holder to exchange the bond for common stock shares at the option of the holder

Question 6

What is coupon rate?

Answer 6

The annual entered rate paid to bondholders, expressed as a % of par value

Question 7

What is the cumulative feature?

Answer 7

If a firm can’t pay preferred stock holders its not allowed to pay common stock holders until it has satisfied all.

Question 8

What is participation?

Answer 8

A preferred issue in which the holders share in any increased earning of the company. (most preferred stock is non-participating)

Question 9

What is the call feature (preferred stock)?

Answer 9

allows a company to retire its preferred stock at a higher price to the stock holder.

Question 10

What is the main difference between book value and market value?

Answer 10

Book value - what you paid for it

Market value - how much its worth today in the market.

Question 11

Whats the relationship between CR and RRR that would deem a bond sell at a Discount?

Answer 11

A bond will sell at a discount if RRR is greater than CR

Question 12

Whats the relationship between CR and RRR that would deem a bond sell at Par Value?

Answer 12

A bond will sell at par value if the RRR is equal to the CR

Question 13

Whats the relationship between CR and RRR that would deem a bond sell at a Premium?

Answer 13

A bond will see at a premium if the RRR is less than the CR

Question 14

What is YTM?

Answer 14

is the rate of return expected to be earned if a bond is purchased at a given price and held until maturity. (takes in to account account gains and losses)

Question 15

What is the coupon or current yield?

Answer 15

The annual interest payment divided by the current price. (only takes in to account capital gains)

Question 16

When is a bonds current yield = to its YTM?

Answer 16

When the current price of the bond is = to par (Face value) e.g. not gains or losses

Question 17

How are preferred stock similar to long term debt?

Answer 17

Interest on long term debt and preferred stock usually remain consistent over time. (The are both fixed income securities)

Question 18

How is preferred stock similar to common stock?

Answer 18

They are both apart of stockholders equity. They both receive dividends rather than interest.

Question 19

Why is a sinking fund beneficial for bond holders?

Answer 19

Sinking fund is used to reduce the amount owed at maturity. It reduces the risk that the borrowed will default. It adds liquidity, the bond holder is more likely to get paid back.

Question 20

What is Interest rate risk?

Answer 20

IRR represent the variation in the market price of a bond hence its realised rate or return. due to change in prevailing interest rates.

Question 21

What is reinvestment risk?

Answer 21

The potential decrease in interest income that results when a bond issue matures (or called) and, because of a possible decline in interest rates, the investor has to reinvest at a lower coupon rate.

Question 22

What are Junk Bonds?

Answer 22

Projects that are funded entirely from debt (Bonds) they pay a high return

Question 23

How to determine the price of a bond

Answer 23

Price of bond = PV(coupons) +PV(Face value)

Question 24

advantages of equity in capital structure

Answer 24

• Flexibility (dividends)

- Reduces financial leverage

Question 25

Disadvantages of equity in capital structure

Answer 25

• Dilution of EPS

- More expensive than debt or preferred stock

Question 26

What are some attributes of common stock?

Answer 26

• Variable income security (holders gain and loose based on the firms earnings)
• Residual ownership
• Permanent long term financing

Question 27

What are some dividend rights

Answer 27

• You have the right to profit in the performance of the company
• investors will prefer reinvestment, especially when a company is young this improves overall shareholder wealth

Question 28

What are pre-emptive rights?

Answer 28

• when you are the majority stockholder.
• During a seasoned offering, what ever owner ship you have you can by the same amount of what you currently own. Prevents people increasing their total ownership.

Question 29

what is a stock split?

Answer 29

Taking a stock that has a value too high. They get divided by a fraction

Question 30

What is a reverse split?

Answer 30

When a stock price gets too low they combine shares together

Question 31

What is private placement?

Answer 31

Selling your new shares to a select group of investors - puts the business at risk of a take over. However it saves you time and money.

Question 32

What is underwriting?

Answer 32

• a couple institutions purchasing all shares at a discount then selling them to the market for a profit. e.g. Facebook

Question 33

What is Cost of capital?

Answer 33

the average a business pays for every dollar it spends.

Question 34

Project Classifications?

Answer 34

Independent -
Mutually exclusive
Contingent - rely on another project e.g. a secondary project only if the first project occurs

Question 35

What is Capital Rationing?

Answer 35

• our capital is limited (choosing the best projects first)

- employee capital