罗斯公司理财第九版原版书课后习题Cha15

Our conversations with corporate treasurers suggest to us that the use of book values is popular because of the volatility of the stock market. It is frequently claimed that the inherent volatility of the stock market makes market-based debt ratios move around too much. It is also true that restrictions of debt in bond covenants are usually expressed in book values rather than market values. Moreover, firms such as Standard & Poor’s and Moody’s use debt ratios expressed in book values to measure creditworthiness.
A key fact is that whether we use book or market values, debt ratios for U.S. non-financial firms generally have been well below 100 percent of total equity in recent years; that is, firms generally use less debt than equity.
Summary and Conclusions
The basic sources of long-term financing are long-term debt, preferred stock, and common stock. This chapter described the essential features of each.
1. We emphasized that common shareholders have:
1. Residual risk and return in a corporation.
2. Voting rights.
3. Limited liability if the corporation elects to default on its debt and must transfer some or
all of its assets to the creditors.
2. Long-term debt involves contractual obligations set out in indentures. There are many kinds of
debt, but the essential feature is that debt involves a stated amount that must be repaid. Interest payments on debt are considered a business expense and are tax deductible.
3. Preferred stock has some of the features of debt and some of the features of common equity.
Holders of preferred stock have preference in liquidation and in dividend payments compared to holders of common equity.
4. Firms need financing for capital expenditures, working capital, and other long-term uses. Most
of the financing is provided from internally generated cash flow. In the United States only about 25 percent of financing comes from new debt and new equity. Only firms in Japan have historically relied more on external financing than on internal financing.
5. In the 1980s and recently, U.S. firms retired massive amounts of equity. These share buybacks
have been financed with new debt.
Concept Questions
1. Bond Features What are the main features of a corporate bond that would be listed in the
indenture?
2. Preferred Stock and Debt What are the differences between preferred stock and debt?
3. Preferred Stock Preferred stock doesn’t offer a corporate tax shield on the dividends paid.
Why do we still observe some firms issuing preferred stock?
4. Preferred Stock and Bond Yields The yields on nonconvertible preferred stock are lower
than the yields on corporate bonds. Why is there a difference? Which investors are the primary holders of preferred stock? Why?
5. Corporate Financing What are the main differences between corporate debt and equity? Why
do some firms try to issue equity in the guise of debt?
6. Call Provisions A company is contemplating a long-term bond issue. It is debating whether to
include a call provision. What are the benefits to the company from including a call provision? What are the costs? How do these answers change for a put provision?
7. Proxy What is a proxy?
8. Preferred Stock Do you think preferred stock is more like debt or equity? Why?
9. Long-Term Financing As was mentioned in the chapter, new equity issues are generally only
a small portion of all new issues. At the same time, companies continue to issue new debt. Why do
companies tend to issue little new equity but continue to issue new debt?
10. Internal versus External Financing What is the difference between internal financing and
external financing?
11. Internal versus External Financing What factors influence a firm’s choice of external versus
internal equity financing?
12. Classes of Stock Several publicly traded companies have issued more than one class of stock.
Why might a company issue more than one class of stock?
13. Callable Bonds Do you agree or disagree with the following statement: In an efficient market,
callable and noncallable bonds will be priced in such a way that there will be no advantage or disadvantage to the call provision. Why?
14. Bond Prices If interest rates fall, will the price of noncallable bonds move up higher than that
of callable bonds? Why or why not?
15. Sinking Funds Sinking funds have both positive and negative characteristics for bondholders.
Why?
Questions and Problems connect™
BASIC (Questions 1–7)
1. Corporate Voting The shareholders of the Unicorn Company need to elect seven new
directors. There are 600,000 shares outstanding currently trading at $39 per share. You would like to serve on the board of directors; unfortunately no one else will be voting for you. How much will it cost you to be certain that you can be elected if the company uses straight voting? How much will it cost you if the company uses cumulative voting?
2. Cumulative Voting An election is being held to fill three seats on the board of directors of a
firm in which you hold stock. The company has 5,800 shares outstanding. If the election is conducted under cumulative voting and you own 300 shares, how many more shares must you buy to be assured of earning a seat on the board?
3. Cumulative Voting The shareholders of Motive Power Corp. need to elect three new directors
to the board. There are 1,200,000 shares of common stock outstanding, and the current share price is $9. If the company uses cumulative voting procedures, how much will it cost to guarantee yourself one seat on the board of directors?
4. Corporate Voting Power Inc. is going to elect six board members next month. Betty Brown
owns 15.2 percent of the total shares outstanding. How confident can she be of having one of her candidate friends elected under the cumulative voting rule? Will her friend be elected for certain if the voting procedure is changed to the staggering rule, under which shareholders vote on three board members at a time?
5. Zero Coupon Bonds You buy a zero coupon bond at the beginning of the year that has a face
value of $1,000, a YTM of 7 percent, and 25 years to maturity. If you hold the bond for the entire year, how much in interest income will you have to declare on your tax return?
6. Valuing Callable Bonds KIC, Inc., plans to issue $5 million of bonds with a coupon rate of 12
percent and 30 years to maturity. The current market interest rates on these bonds are 11 percent.
In one year, the interest rate on the bonds will be either 14 percent or 7 percent with equal probability. Assume investors are risk-neutral.
1. If the bonds are noncallable, what is the price of the bonds today?
2. If the bonds are callable one year from today at $1,450, will their price be greater or less
than the price you computed in (a)? Why?
7. Valuing Callable Bonds New Business Ventures, Inc., has an outstanding perpetual bond with
a 10 percent coupon rate that can be called in one year. The bond makes annual coupon
payments. The call premium is set at $150 over par value. There is a 40 percent chance that the interest rate in one year will be 12 percent, and a 60 percent chance that the interest rate will be 7 percent. If the current interest rate is 10 percent, what is the current market price of the bond?
INTERMEDIATE (Questions 8-13)
8. Valuing Callable Bonds Bowdeen Manufacturing intends to issue callable, perpetual bonds
with annual coupon payments. The bonds are callable at $1,250. One-year interest rates are 11 percent. There is a 60 percent probability that long-term interest rates one year from today will be
13 percent, and a 40 percent probability that they will be 9 percent. Assume that if interest rates
fall the bonds will be called. What coupon rate should the bonds have in order to sell at par value?
9. Valuing Callable Bonds Illinois Industries has decided to borrow money by issuing perpetual
bonds with a coupon rate of 8 percent, payable annually. The one-year interest rate is 8 percent.
Next year, there is a 35 percent probability that interest rates will increase to 9 percent, and there is a 65 percent probability that they will fall to 6 percent.
1. What will the market value of these bonds be if they are noncallable?
2. If the company decides instead to make the bonds callable in one year, what coupon will
be demanded by the bondholders for the bonds to sell at par? Assume that the bonds will be called if interest rates rise and that the call premium is equal to the annual coupon.
3. What will be the value of the call provision to the company?
10. Bond Refunding An outstanding issue of Public Express Airlines debentures has a call
provision attached. The total principal value of the bonds is $250 million, and the bonds have an annual coupon rate of 8 percent. The company is considering refunding the bond issue. Refunding means that the company would issue new bonds and use the proceeds from the new bond issuance to repurchase the outstanding bonds. The total cost of refunding would be 12 percent of the principal amount raised. The appropriate tax rate for the company is 35 percent. How low does the borrowing cost need to drop to justify refunding with a new bond issue?
11. Bond Refunding Charles River Associates is considering whether to call either of the two
perpetual bond issues the company currently has outstanding. If the bond is called, it will be refunded, that is, a new bond issue will be made with a lower coupon rate. The proceeds from the new bond issue will be used to repurchase one of the existing bond issues. The information about the two currently outstanding bond issues is:
The corporate tax rate is 35 percent. What is the NPV of the refunding for each bond? Which, if either, bond should the company refinance?
12. Interest on Zeroes Tesla Corporation needs to raise funds to finance a plant expansion, and
it has decided to issue 25-year zero coupon bonds to raise the money. The required return on the bonds will be 9 percent.
1. What will these bonds sell for at issuance?
2. Using the IRS amortization rule, what interest deduction can the company take on these
bonds in the first year? In the last year?
3. Repeat part (b) using the straight-line method for the interest deduction.
4. Based on your answers in (b) and (c), which interest deduction method would Tesla
Corporation prefer? Why?
13. Zero Coupon Bonds Suppose your company needs to raise $30 million and you want to issue
30-year bonds for this purpose. Assume the required return on your bond issue will be 8 percent, and you’re evaluating two issue alternatives: An 8 percent semiannual coupon bond and a zero coupon bond. Your company’s tax rate is 35 percent.
1. How many of the coupon bonds would you need to issue to raise the $30 million?
How many of the zeroes would you need to issue?
2. In 30 years, what will your company’s repayment be if you issue the coupon bonds? What
if you issue the zeroes?
CHALLENGE (Questions 14-15)
14. Valuing the Call Feature Consider the prices of the following three Treasury issues as of
February 24, 2009:
The bond in the middle is callable in February 2010. What is the implied value of the call feature? (Hint: Is there a way to combine the two noncallable issues to create an issue that has the same coupon as the callable bond?)
15. Treasury Bonds The following Treasury bond quote appeared in The Wall Street Journal on
May 11, 2004.
Why would anyone buy this Treasury bond with a negative yield to maturity? How is this possible?。