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FIN 540 week 3

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Question;FIN 540 ? Homework Chapter 20;? 2013 Strayer University. All Rights;Reserved. This document contains Strayer University Confidential and;Proprietary information;and may not be copied, further distributed;or otherwise disclosed in whole or in part, without the expressed written;permission of;Strayer University.;FIN 540 Homework Chapter 20! Page 1 of 2!;Directions: Answer the following five;questions on a separate document. Explain how you reached the;answer or show your work if a mathematical;calculation is needed, or both. Submit your assignment using;the assignment link in the course shell.;Each question is worth five points apiece for a total of 25 points;for this homework assignment.;1. Which of the following statements is;most CORRECT?;a. By law in most states, all preferred;stock must be cumulative, meaning that the;compounded total of all unpaid preferred;dividends must be paid before any dividends;can be paid on the firm's common stock.;b. From the issuer's point of view, preferred;stock is less risky than bonds.;c. Whereas common stock has an indefinite;life, preferred stocks always have a specific;maturity date, generally 25 years or less.;d. Unlike bonds, preferred stock cannot;have a convertible feature.;e. Preferred stock generally has a higher;component cost of capital to the firm than does;common stock.;2. Which of the following statements about;convertibles is most CORRECT?;a. One advantage of convertibles over;warrants is that the issuer receives additional cash;money when convertibles are converted.;b. Investors are willing to accept a lower;interest rate on a convertible than on otherwise;similar straight debt because convertibles;are less risky than straight debt.;c. At the time it is issued, a;convertible's conversion (or exercise) price is generally set;equal to or below the underlying stock's;price.;d. For equilibrium to exist, the expected;return on a convertible bond must normally be;between the expected return on the firm's;otherwise similar straight debt and the;expected return on its common stock.;e. The coupon interest rate on a firm's;convertibles is generally set higher than the market;yield on its otherwise similar straight;debt.;3. Which of the following statements;concerning warrants is correct?;a. Warrants are long-term put options that;have value because holders can sell the firm's;common stock at the exercise price;regardless of how low the market price drops.;b. Warrants are long-term call options that;have value because holders can buy the firm's;common stock at the exercise price;regardless of how high the stock's price has risen.;c. A firm's investors would generally;prefer to see it issue bonds with warrants than straight;bonds because the warrants dilute the value;of new shareholders, and that value is;transferred to existing shareholders.;d. A drawback to using warrants is that if;the firm is very successful, investors will be less;likely to exercise the warrants, and this;will deprive the firm of receiving any new capital.;e. Bonds with warrants and convertible;bonds both have option features that their holders;can exercise if the underlying stock's;price increases. However, if the option is exercised;the issuing company's debt declines if;warrants were used but remains the same if it;used convertibles.;FIN;540 ? Homework Chapter 20;? 2013 Strayer University. All Rights;Reserved. This document contains Strayer University Confidential and;Proprietary information;and may not be copied, further distributed;or otherwise disclosed in whole or in part, without the expressed written;permission of;Strayer University.;FIN 540 Homework Chapter 20! Page 2 of 2!;4. Which of the following statements is;most CORRECT?;a. One important difference between;warrants and convertibles is that convertibles bring in;additional funds when they are converted;but exercising warrants does not bring in any;additional funds.;b. The coupon rate on convertible debt is;normally set below the coupon rate that would be;set on otherwise similar straight debt even;though investing in convertibles is more risky;than investing in straight debt.;c. The value of a warrant to buy a safe;stable stock should exceed the value of a warrant to;buy a risky, volatile stock, other things;held constant.;d. Warrants can sometimes be detached and;traded separately from the debt with which;they were issued, but this is unusual.;e. Warrants have an option feature but;convertibles do not.;5. Mariano Manufacturing can issue a;25-year, 8.1% annual payment bond at par. Its investment;bankers also stated that the company can;sell an issue of annual payment preferred stock to;corporate investors who are in the 40% tax;bracket. The corporate investors require an after-tax;return on the preferred that exceeds their;after-tax return on the bonds by 1.0%, which would;represent an after-tax risk premium. What;coupon rate must be set on the preferred in order to;issue it at par?;a. 6.66%;b. 6.99%;c. 7.34%;d. 7.71%;e. 8.09%;FIN 540 ? Homework Chapter 21;? 2013 Strayer University. All Rights;Reserved. This document contains Strayer University Confidential and;Proprietary information;and may not be copied, further distributed;or otherwise disclosed in whole or in part, without the expressed written;permission of;Strayer University.;FIN 540 Homework Chapter 21! Page 1 of 2!;Directions: Answer the following five;questions on a separate document. Explain how you reached the;answer or show your work if a mathematical;calculation is needed, or both. Submit your assignment using;the assignment link in the course shell.;Each question is worth five points apiece for a total of 25 points;for this homework assignment.;1. The major contribution of the Miller;model is that it demonstrates that;a. personal taxes decrease the value of;using corporate debt.;b. financial distress and agency costs;reduce the value of using corporate debt.;c. equity costs increase with financial;leverage.;d. debt costs increase with financial;leverage.;e. personal taxes increase the value of;using corporate debt.;2. Which of the following statements;concerning capital structure theory is NOT CORRECT?;a. Under MM with zero taxes, financial leverage;has no effect on a firm's value.;b. Under MM with corporate taxes, the value;of a levered firm exceeds the value of the;unlevered firm by the product of the tax;rate times the market value dollar amount of;debt.;c. Under MM with corporate taxes, rs;increases with leverage, and this increase exactly;offsets the tax benefits of debt financing.;d. Under MM with corporate taxes, the;effect of business risk is automatically incorporated;because rsL is a function of rsU.;e. The major contribution of Miller's;theory is that it demonstrates that personal taxes;decrease the value of using corporate debt.;3. Which of the following statements;concerning the MM extension with growth is NOT CORRECT?;a. The value of a growing tax shield is;greater than the value of a constant tax shield.;b. For a given D/S, the levered cost of;equity is greater than the levered cost of equity under;MM's original (with tax) assumptions.;c. For a given D/S, the WACC is less than;the WACC under MM's original (with tax);assumptions.;d. The total value of the firm increases;with the amount of debt.;e. The tax shields should be discounted at;the unlevered cost of equity.;4. Which of the following statements;concerning the MM extension with growth is NOT CORRECT?;a. The value of a growing tax shield is;greater than the value of a constant tax shield.;b. For a given D/S, the levered cost of;equity is greater than the levered cost of equity under;MM's original (with tax) assumptions.;c. For a given D/S, the WACC is greater;than the WACC under MM's original (with tax);assumptions.;d. The total value of the firm increases;with the amount of debt.;e. The tax shields should be discounted at;the cost of debt.;FIN;540 ? Homework Chapter 21;? 2013 Strayer University. All Rights;Reserved. This document contains Strayer University Confidential and;Proprietary information;and may not be copied, further distributed;or otherwise disclosed in whole or in part, without the expressed written;permission of;Strayer University.;FIN 540 Homework Chapter 21! Page 2 of 2!;5. Which of the following statements;concerning the MM extension with growth is NOT CORRECT?;a. The value of a growing tax shield is;greater than the value of a constant tax shield.;b. For a given D/S, the levered cost of;equity is greater than the levered cost of equity under;MM's original (with tax) assumptions.;c. For a given D/S, the WACC is greater;than the WACC under MM's original (with tax);assumptions.;d. The total value of the firm is;independent of the amount of debt it uses.;e. The tax shields should be discounted at;the unlevered cost of equity.

 

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