Question: Why are convertibles and bonds with warrants

> Stocks X and Y have the following probability distributions of expected future returns: a. Calculate the expected rate of return, ^rY, for Stock Y (^rX ¼ 12%). b. Calculate the standard deviation of expected returns, X, for Stock X (Y &Ac

> The Neal Company wants to estimate next year’s return on equity (ROE) under different leverage ratios. Neal’s total assets are $14 million, it currently uses only common equity, and its federal-plus-state tax rate is 4

> What does it mean to adopt a maturity matching approach to financing assets, including current assets? How would a more aggressive or a more conservative approach differ from the maturity matching approach, and how would each affect expected profits and

> a. Given the following information, calculate the expected value for Firm C’s EPS. Data for Firms A and B are as follows: E(EPSA) = $5.10, and δA = $3.61; E(EPSB) = $4.20, and δB = $2.96. b. You are given that

> If you buy a callable bond and interest rates decline, will the value of your bond rise by as much as it would have risen if the bond had not been callable? Explain.

> Assume that the risk-free rate increases. What impact would this have on the cost of debt? What impact would it have on the cost of equity?

> Lloyd Corporation’s 14% coupon rate, semiannual payment, $1,000 par value bonds, which mature in 30 years, are callable 5 years from today at $1,050. They sell at a price of $1,353.54, and the yield curve is flat. Assume that interest rates are expected

> Would each of the following increase, decrease, or have an indeterminant effect on a firm’s breakeven point (unit sales)? a. The sales price increases with no change in unit costs. b. An increase in fixed costs is accompanied by a decrease in variable co

> Cyclone Software Co. is trying to establish its optimal capital structure. Its current capital structure consists of 25% debt and 75% equity; however, the CEO believes that the firm should use more debt. The risk-free rate, rRF, is 5%; the market risk pr

> If interest rates rise after a bond issue, what will happen to the bond’s price and YTM? Does the time to maturity affect the extent to which interest rate changes affect the bond’s price?

> Consider the following information for three stocks, Stocks X, Y, and Z. The returns on the three stocks are positively correlated, but they are not perfectly correlated. (That is, each of the correlation coefficients is between 0 and 1.) Fund Q has on

> Rentz Corporation is investigating the optimal level of current assets for the coming year. Management expects sales to increase to approximately $2 million as a result of an asset expansion presently being undertaken. Fixed assets total $1 million, and

> Bradford Manufacturing Company has a beta of 1.45, while Farley Industries has a beta of 0.85. The required return on an index fund that holds the entire stock market is 12.0%. The risk-free rate of interest is 5%. By how much does Bradford’s required re

> The values of outstanding bonds change whenever the going rate of interest changes. In general, short-term interest rates are more volatile than long-term interest rates. Therefore, short-term bond prices are more sensitive to interest rate changes than

> Indicate using a (+), (-), or (0) whether each of the following events would probably cause accounts receivable (A/R), sales, and profits to increase, decrease, or be affected in an indeterminate manner: A/R Sales Profits The firm tightens its credit

> A sinking fund can be set up in one of two ways: a. The corporation makes annual payments to the trustee, who invests the proceeds in securities (frequently government bonds) and uses the accumulated total to retire the bond issue at maturity. b. The tru

> A bond’s expected return is sometimes estimated by its YTM and sometimes by its YTC. Under what conditions would the YTM provide a better estimate, and when would the YTC be better?

> Executive salaries have been shown to be more closely correlated to the size of the firm than to its profitability. If a firm’s board of directors is controlled by management rather than outside directors, this might result in the firm’s retaining more e

> What are some pros and cons of holding high levels of current assets in relation to sales? Use the DuPont equation to help explain your answer.

> If Congress increased the personal tax rate on interest, dividends, and capital gains but simultaneously reduced the rate on corporate income, what effect would this have on the average company’s capital structure?

> Krogh Lumber’s 2008 financial statements are shown here. a. Assume that the company was operating at full capacity in 2008 with regard to all items except fixed assets; fixed assets in 2008 were being utilized to only 75% of capacity.

> Morrissey Technologies Inc.’s 2008 financial statements are shown here. Suppose that in 2009, sales increase by 10% over 2008 sales. The firm currently has 100,000 shares outstanding. It expects to maintain its 2008 dividend payout ra

> A stock is expected to pay a dividend of $0.50 at the end of the year (that is, D1 = 0.50), and it should continue to grow at a constant rate of 7% a year. If its required return is 12%, what is the stock’s expected price 4 years from today?

> It is now January 1, 2009, and you are considering the purchase of an outstanding bond that was issued on January 1, 2007. It has a 9.5% annual coupon and had a 30-year original maturity. (It matures on December 31, 2036.) There is 5 years of call protec

> Would the yield spread on a corporate bond over a Treasury bond with the same maturity tend to become wider or narrower if the economy appeared to be heading toward a recession? Would the change in the spread for a given company be affected by the firm’s

> Christie Corporation is trying to determine the effect of its inventory turnover ratio and days sales outstanding (DSO) on its cash flow cycle. Christie’s 2008 sales (all on credit) were $150,000; and it earned a net profit of 6%, or $9,000. It turned ov

> Mitts Cosmetics Co.’s stock price is $58.88, and it recently paid a $2.00 dividend. This dividend is expected to grow by 25% for the next 3 years, then grow forever at a constant rate, g; and rs = 12%. At what constant rate is the stock expected to grow

> Edney Manufacturing Company has $2 billion in sales and $0.6 billion in fixed assets. Currently, the company’s fixed assets are operating at 80% of capacity. a. What level of sales could Edney have obtained if it had been operating at full capacity? b. W

> One position expressed in the financial literature is that firms set their dividends as a residual after using income to support new investment. a. Explain what a residual dividend policy implies, illustrating your answer with a table showing how differe

> Discuss the following statement: All else equal, firms with relatively stable sales are able to carry relatively high debt ratios. Is the statement true or false? Why?

> Barrett Industries invests a large sum of money in R&D; as a result, it retains and reinvests all of its earnings. In other words, Barrett does not pay any dividends and it has no plans to pay dividends in the near future. A major pension fund is interes

> Most firms like to have their stock selling at a high P/E ratio, and they also like to have extensive public ownership (many different shareholders). Explain how stock dividends or stock splits may help achieve those goals.

> An 8% semiannual coupon bond matures in 5 years. The bond has a face value of $1,000 and a current yield of 8.21%. What are the bond’s price and YTM?

> a. Rework Problem 18-4 using the spreadsheet model. Data from Problem 18-4 Assume that you have been given the following information on Purcell Industries: Using the Black-Scholes Option Pricing Model, what is the value of the option? b. Construct dat

> Stocks A and B have the following historical returns: a. Calculate the average rate of return for each stock during the period 2004 through 2008. b. Assume that someone held a portfolio consisting of 50% of Stock A and 50% of Stock B. What would the re

> Rubenstein Bros. Clothing is expecting to pay an annual dividend per share of $0.75 out of annual earnings per share of $2.25. Currently, Rubenstein Bros.’ stock is selling for $12.50 per share. Adhering to the company’s target capital structure, the fir

> Are securities that provide for a sinking fund more or less risky from the bondholder’s perspective than those without this type of provision? Explain.

> An investor has two bonds in his portfolio that have a face value of $1,000 and pay a 10% annual coupon. Bond L matures in 15 years, while Bond S matures in 1 year. a. What will the value of each bond be if the going interest rate is 5%, 8%, and 12%? As

> Pierce Furnishings generated $2 million in sales during 2008, and its year-end total assets were $1.5 million. Also, at year-end 2008, current liabilities were $500,000, consisting of $200,000 of notes payable, $200,000 of accounts payable, and $100,000

> At year-end 2008, total assets for Ambrose Inc. were $1.2 million and accounts payable were $375,000. Sales, which in 2008 were $2.5 million, are expected to increase by 25% in 2009. Total assets and accounts payable are proportional to sales, and that r

> A firm’s bonds have a maturity of 10 years with a $1,000 face value, have an 8% semiannual coupon, are callable in 5 years at $1,050, and currently sell at a price of $1,100. What are their nominal yield to maturity and their nominal yield to call? What

> What are the two definitions of cash, and why do corporate treasurers often use the second definition?

> The following yields on U.S. Treasury securities were taken from a recent financial publication: Term Rate 6 months………………….5.1% 1 year……………………….5.5% 2 year……………………….5.6% 3 year……………………….5.7% 4 year……………………….5.8% 5 year………………

> How would each of the following changes tend to affect aggregate (that is, the average for all corporations) payout ratios, other things held constant? Explain your answers. a. An increase in the personal income tax rate b. A liberalization of depreciati

> What is the difference between a stock dividend and a stock split? As a stockholder, would you prefer to see your company declare a 100% stock dividend or a two-for-one split? Assume that either action is feasible.

> Would it ever be rational for a firm to borrow money in order to pay dividends? Explain.

> Sue Wilson, the new financial manager of New World Chemicals (NWC), a California producer of specialized chemicals for use in fruit orchards, must prepare a formal financial forecast for 2009. NWC’s 2008 sales were $2 billion, and the m

> Suppose you owned a portfolio consisting of $250,000 of long-term U.S. government bonds. a. Would your portfolio be riskless? Explain. b. Now suppose the portfolio consists of $250,000 of 30-day Treasury bills. Every 30 days your bills mature, and you wi

> Explain whether the following statement is true or false: Only weak companies issue debentures.

> Use a spreadsheet model to forecast the financial statements in Problems 17-13 and 17-14. Data from Problem 17-13 Morrissey Technologies Inc.’s 2008 financial statements are shown here. Suppose that in 2009, sales increase by 10% ove

> What are the four key factors in a firm’s credit policy? How would an easy policy differ from a tight policy? Give examples of how the four factors might differ between the two policies. How would the easy versus the tight policy affect sales? Profits?

> How would each of the following scenarios affect a firm’s cost of debt, rd(1 – T); its cost of equity, rs; and its WACC? Indicate with a plus (+), a minus (–), or a zero (0) if the factor would raise,

> Six years ago the Singleton Company issued 20-year bonds with a 14% annual coupon rate at their $1,000 par value. The bonds had a 9% call premium, with 5 years of call protection. Today Singleton called the bonds. Compute the realized rate of return for

> Stock X has a 10% expected return, a beta coefficient of 0.9, and a 35% standard deviation of expected returns. Stock Y has a 12.5% expected return, a beta coefficient of 1.2, and a 25% standard deviation. The risk-free rate is 6%, and the market risk pr

> Define cash conversion cycle (CCC) and explain why, holding other things constant, a firm’s profitability would increase if it lowered its CCC.

> You are considering an investment in Keller Corp’s stock, which is expected to pay a dividend of $2.00 a share at the end of the year (D1 = $2.00) and has a beta of 0.9. The risk-free rate is 5.6%, and the market risk premium is 6%. Keller currently sell

> Lamar Lumber Company has sales of $10 million per year, all on credit terms calling for payment within 30 days; and its accounts receivable are $2 million. What is Lamar’s DSO, what would it be if all customers paid on time, and how much capital would be

> Investors require a 15% rate of return on Levine Company’s stock (that is, rs = 15%). a. What is its value if the previous dividend was D0 = $2 and investors expect dividends to grow at a constant annual rate of (1) –5%, (2) 0%, (3) 5%, or (4) 10%? b. Us

> The future earnings, dividends, and common stock price of Carpetto Technologies Inc. are expected to grow 7% per year. Carpetto’s common stock currently sells for $23.00 per share; its last dividend was $2.00; and it will pay a $2.14 dividend at the end

> Taussig Technologies Corporation (TTC) has been growing at a rate of 20% per year in recent years. This same growth rate is expected to last for another 2 years, then decline to gn = 6%. a. If D0 = $1.60 and rs = 10%, what is TTC’s stock worth today? Wh

> In Chapter 7, we saw that if the market interest rate, rd, for a given bond increased, the price of the bond would decline. Applying this same logic to stocks, explain (a) How a decrease in risk aversion would affect stocks’ prices and earned rates of re

> Hooper Printing Inc. has bonds outstanding with 9 years left to maturity. The bonds have an 8% annual coupon rate and were issued 1 year ago at their par value of $1,000. However, due to changes in interest rates, the bond’s market price has fallen to $9

> HR Industries (HRI) has a beta of 1.8, while LR Industries’ (LRI) beta is 0.6. The risk-free rate is 6%, and the required rate of return on an average stock is 13%. The expected rate of inflation built into rRF falls by 1.5 percentage points, the real ri

> Martin Development Co. is deciding whether to proceed with Project X. The cost would be $9 million in Year 0. There is a 50% chance that X would be hugely successful and would generate annual after-tax cash flows of $6 million per year during Years 1, 2,

> Clifford Clark is a recent retiree who is interested in investing some of his savings in corporate bonds. His financial planner has suggested the following bonds: ●Bond A has a 7% annual coupon, matures in 12 years, and has a $1,000 face value. ● Bond B

> Firms HL and LL are identical except for their leverage ratios and the interest rates they pay on debt. Each has $20 million in assets, has $4 million of EBIT, and is in the 40% federal-plus-state tax bracket. Firm HL, however, has a debt ratio (D/A) of

> Bowles Sporting Inc. is prepared to report the following income statement (shown in thousands of dollars) for the year 2009. Prior to reporting this income statement, the company wants to determine its annual dividend. The company has 500,000 shares of

> Southeastern Steel Company (SSC) was formed 5 years ago to exploit a new continuous casting process. SSC’s founders, Donald Brown and Margo Valencia, had been employed in the research department of a major integrated-steel company; but when that company

> Why is a call provision advantageous to a bond issuer? When would the issuer be likely to initiate a refunding call?

> Your broker offers to sell you some shares of Bahnsen & Co. common stock that paid a dividend of $2.00 yesterday. Bahnsen’s dividend is expected to grow at 5% per year for the next 3 years. If you buy the stock, you plan to hold it for 3 years and then s

> An investor in Treasury securities expects inflation to be 2.5% in Year 1, 3.2% in Year 2, and 3.6% each year thereafter. Assume that the real risk-free rate is 2.75% and that this rate will remain constant. Three-year Treasury securities yield 6.25%, wh

> Nevada Enterprises is considering buying a vacant lot that sells for $1.2 million. If the property is purchased, the company’s plan is to spend another $5 million today (t = 0) to build a hotel on the property. The after-tax cash flows from the hotel wil

> Helen Bowers, owner of Helen’s Fashion Designs, is planning to request a line of credit from her bank. She has estimated the following sales forecasts for the firm for parts of 2009 and 2010: Estimates regarding payments obtained from

> Tapley Inc. currently has assets of $5 million, has zero debt, is in the 40% federal-plus-state tax bracket, has a net income of $1 million, and pays out 40% of its earnings as dividends. Net income is expected to grow at a constant rate of 5% per year,

> Dozier Corporation is a fast-growing supplier of office products. Analysts project the following free cash flows (FCFs) during the next 3 years, after which FCF is expected to grow at a constant 7% rate. Dozier’s WACC is 13%. a. What is

> Northern Pacific Heating and Cooling Inc. has a 6-month backlog of orders for its patented solar heating system. To meet this demand, management plans to expand production capacity by 40% with a $10 million investment in plant and machinery. The firm wan

> Assume that you have a short investment horizon (less than 1 year). You are considering two investments: a 1-year Treasury security and a 20-year Treasury security. Which of the two investments would you view as being riskier? Explain.

> Hampton Manufacturing estimates that its WACC is 12% if equity comes from retained earnings. However, if the company issues new stock to raise new equity, it estimates that its WACC will rise to 12.5%. The company believes that it will exhaust its retain

> If investors’ aversion to risk increased, would the risk premium on a high-beta stock increase by more or less than that on a low-beta stock? Explain.

> Suppose you are the money manager of a $4 million investment fund. The fund consists of four stocks with the following investments and betas: If the market’s required rate of return is 14% and the risk-free rate is 6%, what is the fun

> A stock had a 12% return last year, a year when the overall stock market declined. Does this mean that the stock has a negative beta and thus very little risk if held in a portfolio? Explain.

> Is it possible to construct a portfolio of real-world stocks that has an expected return equal to the risk-free rate?

> A firm with a WACC of 10% is considering the following mutually exclusive projects: Which project would you recommend? Explain. 1 2 3 5 Project A -$400 Project B -$600 $55 $300 $55 $300 $55 $50 + $225 $50 $225 $49

> Suppose a firm makes the following policy changes. If the change means that external non spontaneous financial requirements (AFN) will increase, indicate this with a (+); indicate a decrease with a (–); and indicate an indeterminate or

> Due to a recession, expected inflation this year is only 3%. However, the inflation rate in Year 2 and thereafter is expected to be constant at some level above 3%. Assume that the expectations theory holds and the real risk-free rate is r* = 2%. If the

> Maria Juarez is a professional tennis player, and your firm manages her money. She has asked you to give her information about what determines the level of various interest rates. Your boss has prepared some questions for you to consider. a. What are the

> Assume that you recently graduated with a major in finance. You just landed a job as a financial planner with Merrill Finch Inc., a large financial services corporation. Your first assignment is to invest $100,000 for a client. Because the funds are to b

> It is frequently stated that the one purpose of the preemptive right is to allow individuals to maintain their proportionate share of the ownership and control of a corporation. a. How important do you suppose control is for the average stockholder of a

> The real risk-free rate is 3%. Inflation is expected to be 2% this year and 4% during the next 2 years. Assume that the maturity risk premium is zero. What is the yield on 2-year Treasury securities? What is the yield on 3-year Treasury securities?

> A firm is about to double its assets to serve it’s rapidly growing market. It must choose between a highly automated production process and a less automated one. It also must choose a capital structure for financing the expansion. Should the asset invest

> Modigliani and Miller (MM) on the one hand and Gordon and Lintner (GL) on the other hand have expressed strong views regarding the effect of dividend policy on a firm’s cost of capital and value. a. In essence, what are MM's and GL's views regarding the

> What does it mean when it is said that the United States is running a trade deficit? What impact will a trade deficit have on interest rates?

> Ziege Systems is considering the following independent projects for the coming year: Ziege’s WACC is 10%, but it adjusts for risk by adding 2% to the WACC for high-risk projects and subtracting 2% for low-risk projects. a. Which project

> Heymann Company bonds have 4 years left to maturity. Interest is paid annually, and the bonds have a $1,000 par value and a coupon rate of 9%. a. What is the yield to maturity at a current market price of (1) $829 and (2) $1,104? b. Would you pay $829

> Adams Corporation is considering four average risk projects with the following costs and rates of return: The company estimates that it can issue debt at a rate of rd = 10%, and its tax rate is 30%. It can issue preferred stock that pays a constant divid

> Sidman Products’ common stock currently sells for $60.00 a share. The firm is expected to earn $5.40 per share this year and to pay a year-end dividend of $3.60, and it finances only with common equity. a. If investors require a 9% return, what is the ex

> Bruner Aeronautics has perpetual preferred stock outstanding with a par value of $100. The stock pays a quarterly dividend of $2, and its current price is $80. a. What is its nominal annual rate of return? b. What is its effective annual rate of return?

> The Bouchard Company’s EPS was $6.50 in 2008, up from $4.42 in 2003. The company pays out 40% of its earnings as dividends, and its common stock sells for $36.00. a. Calculate the past growth rate in earnings. (Hint: This is a 5-year growth period.) b. T

> Wingler Communications Corporation (WCC) produces premium stereo headphones that sell for $28.80 per set, and this year’s sales are expected to be 450,000 units. Variable production costs for the expected sales under present production methods are estima

> Kahn Inc. has a target capital structure of 60% common equity and 40% debt to fund its $10 billion in operating assets. Furthermore, Kahn Inc. has a WACC of 13%, a before-tax cost of debt of 10%, and a tax rate of 40%. The company’s retained earnings are