978-0133507676 Chapter 15 Part 2

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Explanation: D) The private debt market is larger than the public debt market.

Dif: 2 Var: 1

Skill: Conceptual

AACSB Objective: Analytic Skills

Author: JN

Question Status: Previous Edition

35) Which of the following statements is FALSE?

A) Almost all bonds that are issued today are registered bonds.

B) The trust company represents the bondholders and makes sure that the terms of the

indenture are enforced.

C) For private placements, the prospectus must include an indenture, a formal contract

between the bond issuer and a trust company.

D) In the case of default, the trust company represents the bondholders’ interests.

AACSB Objective: Analytic Skills

Author: JN

Question Status: Previous Edition

36) Which of the following statements is FALSE?

A) The registered bond system facilitates tax collection because the government can easily

keep track of all interest payments made.

B) Asset-backed bonds and mortgage bonds are secured debt, and speciic assets are

pledged as collateral that bondholders have a direct claim to in the event of bankruptcy.

C) Notes typically have longer maturities (more than ten years) than debentures.

D) Although the word “bond” is commonly used to mean any kind of debt security,

technically a corporate bond must be secured.

AACSB Objective: Analytic Skills

Author: JN

Question Status: Previous Edition

37) A irm issues $200 million in straight bonds at par and a coupon rate of 7%. The irm

pays fees of 4.0% on the face value of the bonds. What is the net amount of funds that the

debt issue will provide for the irm?

A) $182.4 million

B) $211 million

C) $192 million

D) $202 million

AACSB Objective: Analytic Skills

Author: WC

Question Status: Revised

38) A irm issues $500 million in straight bonds at par and a coupon rate of 5%. The irm

pays fees of 2% on the face value of the bonds. What is the net amount of funds that the

debt issue will provide for the irm?

A) $466 million

B) $490 million

C) $539 million

D) $514.5 million

AACSB Objective: Analytic Skills

Author: WC

Question Status: Revised

39) A irm issues $525 million in straight bonds at an original issue discount of 2% and a

coupon rate of 5%. The irm pays fees of 2% on the face value of the bonds. What is the net

amount of funds that the debt issue will provide for the irm?

A) $580 million

B) $554.4 million

C) $529 million

D) $504 million

AACSB Objective: Analytic Skills

Author: WC

Question Status: Revised

40) What is an original issue discount bond?

AACSB Objective: Analytic Skills

Author: SS

Question Status: Previous Edition

41) What are debentures?

AACSB Objective: Analytic Skills

Author: SS

Question Status: Previous Edition

42) What are notes?

AACSB Objective: Analytic Skills

Author: SS

Question Status: Previous Edition

43) What are secured debt?

AACSB Objective: Analytic Skills

Author: SS

Question Status: Previous Edition

15.2 Bond Covenants

1) Covenants in a bond contract restrict the actions that management of a irm can take

that would beneit the debtholders of a irm at the expense of the equity holders of the irm.

AACSB Objective: Analytic Skills

Author: DS

Question Status: Previous Edition

2) Bond covenants tend to increase a bond issuer’s borrowing costs.

AACSB Objective: Analytic Skills

Author: DS

Question Status: Previous Edition

3) If a bond covenant is not met, then the bond goes into technical default and the

bondholder can demand immediate repayment or force the company to renegotiate the

terms of the bond.

AACSB Objective: Analytic Skills

Author: DS

Question Status: Previous Edition

4) Why do the issuers of bonds not seek to minimize the strength and number of covenants

in a bond agreement?

A) More covenants favor the equity holders that managers work for.

B) More covenants can increase the lexibility of the company issuing bonds.

C) More covenants lower the interest rate investors will require to buy the bond.

D) Less covenants force the company to renegotiate the terms of the bond if they are

broken.

AACSB Objective: Analytic Skills

Author: DS

Question Status: Revised

5) Which of the following will have the greatest need of strong bond covenants if it is to

receive a high bond rating?

A) a debenture

B) a mortgage bond

C) an asset-backed bond

D) a foreign bond

AACSB Objective: Analytic Skills

Author: DS

Question Status: Previous Edition

6) A covenant that restricts a company from making loans or otherwise providing credit is

best viewed as a restriction on which of the following?

A) issuing new debt

B) dividends and share repurchases

C) mergers and acquisitions

D) asset disposition

AACSB Objective: Analytic Skills

Author: DS

Question Status: Revised

7) Which of the following statements is FALSE?

A) If a bond issuer fails to live up to any covenant, the issuer goes into bankruptcy

immediately.

B) The stronger the covenants in the bond contract, the less likely an issuer will default on

the bond and so the lower the interest rate investors will require to buy the bond.

C) Covenants are restrictive clauses in a bond contract that limit the issuer from taking

actions that may undercut its ability to repay the bonds.

D) Bond agreements often contain covenants that restrict the ability of management to pay

dividends.

AACSB Objective: Analytic Skills

Author: JN

Question Status: Previous Edition

8) Which of the following statements is FALSE?

A) By including more covenants, issuers increase their costs of borrowing.

B) Once bonds are issued, equity holders have an incentive to increase dividends at the

expense of debt holders.

C) Covenants may restrict the level of further indebtedness and specify that the issuer

must maintain a minimum amount of working capital.

D) If the covenants are designed to reduce agency costs by restricting management’s

ability to take negative-NPV actions that exploit debt holders, then the reduction in the

irm’s borrowing cost can more than outweigh the cost of the loss of lexibility associated

with covenants.

AACSB Objective: Analytic Skills

Author: JN

Question Status: Previous Edition

9) What are bond covenants?

AACSB Objective: Analytic Skills

Author: SS

Question Status: Previous Edition

10) What are the implications of stronger bond covenants?

AACSB Objective: Analytic Skills

Author: SS

Question Status: Previous Edition

15.3 Repayment Provisions

1) The sole way that a irm can repay its bonds is by making the coupon and principal

payments as speciied in the bond contract.

AACSB Objective: Analytic Skills

Author: DS

Question Status: Previous Edition

2) Convertible bonds have a provision that gives the bondholder an option to convert each

bond owned into a ixed number of shares of common stock.

AACSB Objective: Analytic Skills

Author: DS

Question Status: Previous Edition

3) If a company issues both a straight bond and a convertible bond simultaneously, at par,

then the straight bond will have a higher interest rate.

AACSB Objective: Analytic Skills

Author: DS

Question Status: Previous Edition

4) What is a call provision?

A) the periodic repurchasing of issued bonds through a sinking fund by the issuer

B) an option to the issuer to repurchase the bonds at a predetermined price

C) the option for the bondholder to convert each bond owned into a ixed number of shares

of common stock

D) a clause in a bond contract that restricts the actions of the issuer that might harm the

interests of the bondholders

AACSB Objective: Analytic Skills

Author: DS

Question Status: Previous Edition

5) When would it make sense for a irm to call a bond issue?

A) when the market price of the bond exceeds the call price, and market interest rates are

greater than the bond’s coupon rate

B) when the market price of the bond exceeds the call price, and market interest rates are

less than the bond’s coupon rate

C) when the market price of the bond is less than the call price, and market interest rates

are greater than the bond’s coupon rate

D) when the market price of the bond is less than the call price, and market interest rates

are less than the bond’s coupon rate

AACSB Objective: Relective Thinking Skills

Author: DS

Question Status: Previous Edition

6) In which of the following situations would the yield to worst for a certain bond be that

bond’s yield to call?

I. The bond’s coupon payments are high relative to market yields.

II. The bond price is at a discount.

III. The likelihood of the bond being called is high.

A) I only

B) II only

C) I and II

D) I and III

AACSB Objective: Analytic Skills

Author: DS

Question Status: Revised

7) A company issues a callable (at par) ten-year, 6% coupon bond with annual coupon

payments. The bond can be called at par in one year after release or any time after that on

a coupon payment date. On release, it has a price of $104 per $100 of face value. What is

the yield to call of this bond when it is released?

A) 0.60%

B) 1.50%

C) 1.92%

D) 5.47%

AACSB Objective: Analytic Skills

Author: DS

Question Status: Previous Edition

8) A company issues a callable (at par) ten-year, 6% coupon bond with annual coupon

payments. The bond can be called at par in one year after release or any time after that on

a coupon payment date. On release, it has a price of $104 per $100 of face value. What is

the yield to maturity of this bond when it is released?

A) 0.60%

B) 1.92%

C) 4.00%

D) 5.47%

AACSB Objective: Analytic Skills

Author: DS

Question Status: Previous Edition

9) A company issues a callable (at par) ten-year, 6% coupon bond with annual coupon

payments. The bond can be called at par in one year after release or any time after that on

a coupon payment date. On release, it has a price of $104 per $100 of face value. What is

the yield to worst of this bond when it is released?

A) 0.60%

B) 1.92%

C) 4.00%

D) 5.47%

AACSB Objective: Analytic Skills

Author: DS

Question Status: Previous Edition

10) A company issues a callable (at par) ive-year, 7% coupon bond with annual coupon

payments. The bond can be called at par in one year after release or any time after that on

a coupon payment date. On release, it has a price of $110 per $100 of face value. What is

the yield to call of this bond when it is released?

A) 1.40%

B) 2.73%

C) 4.71%

D) 5.66%

AACSB Objective: Analytic Skills

Author: DS

Question Status: Previous Edition

11) A company issues a callable (at par) ive-year, 7% coupon bond with annual coupon

payments. The bond can be called at par in one year after release or any time after that on

a coupon payment date. On release, it has a price of $110 per $100 of face value. What is

the yield to maturity of this bond when it is released?

A) 1.40%

B) 2.80%

C) 4.71%

D) 5.66%

AACSB Objective: Analytic Skills

Author: DS

Question Status: Previous Edition

12) A company issues a callable (at par) ive-year, 7% coupon bond with annual coupon

payments. The bond can be called at par in one year after release or any time after that on

a coupon payment date. On release, it has a price of $110 per $100 of face value. What is

the yield to worst of this bond when it is released?

A) 1.40%

B) 2.73%

C) 3.00%

D) 4.71%

AACSB Objective: Analytic Skills

Author: DS

Question Status: Previous Edition