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Finance Exam




Question;PART ONE Question 1 (15 points) A treasurer argues with the CFO that because "interest rates have dropped substantially in the last year, the firm should best' back their current debt and issue new one to save on interest costs". The CFO answers that this only makes sense for "the bonds with call provisions." Which one is right? Why? Question 2 (15 points) a) Give two reasons (referring to issues discussed in class) why issuing short-term debt can create shareholder value vis-a-vis long-term debt. b) Firms can issue debt publicly (e.g., in the form of publicly held bonds?say tradable bonds held by many small investors) or privately (e.g., in the form of non-tradable bonds held by institutions?say insurance companies, banks etc.). Give one reason why issuing publicly held debt can generate value for the firm and one reason why issuing privately held debt can generate firm value. (Please assume that in either case the debt is fairly priced, i.e., investors are getting a fair expected Term on their investments.) Question 3 (15 points) A treasurer makes the following proposal to a CFO: "We can issue $100 million of debt and use the proceeds to buy back 50% of our shares. As a result, this would increase the DIE ratio of our firm and increase the expected return that the equity-holders that decide to stay with the firm." The CFO disagrees and replies that "no increase in expected return will occur, since, to entice some shareholders to sell their shares a.sufficient compensation needs to be offered to them". Which one is right? Why? (Please ignore taxes and any effect of debt on the firm's cash flows including bankruptcy and other financial distress costs.) Question 4 (15 points) A treasurer is considering issuing common stock. He argues that "since the stock price has gone up by 20% during the last year now it is a good time to issue since shareholder dilution is higher after a rim-up in prices". Do you agree? Question 5 (15 points) A hedge fund manager makes the following statement: "Since many put options have negative expected returns, writing puts that have negative expected returns is a profitable investment. That is, if we ifrite such put options, we will make money on average and enjoy abnormal expected returns." a) Is it reasonable to state that "many put options have negative returns"? b) Assuming that this is the case, explain whether the strategy proposed by the hedge fiend manager is profitable on average and whether or not it produces abnormal expected returns (i.e., returns above the fair compensation for the risk incurred by undertaking the strategy).


Paper#47733 | Written in 18-Jul-2015

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