Fundamentals of Corporate Finance 3e Test Bank
97.
Consider two call options written on different stocks. Both call options have a strike
price of $15 and expire one year from today. The first option is written on HearFour,
Inc., whose current stock price is $16. One year from now, shares of HearFour will
either rise to $18 or fall to $14. The second option is written on EsoOne, Inc., whose
current stock price is also $16. One year from now shares of EsoOne Inc. will either
rise to $22, or fall to $0. The risk-free interest rate is 0 percent. Which call option is
worth more?
A)
The call option on HearFour, is worth more.
B)
The call option on EsoOne is worth more.
C)
They are both worth the same amount.
D)
There is not enough information to make a comparison.
Ans:
B
The EsoOne call option is worth more.
Fundamentals of Corporate Finance 3e Test Bank
98.
Consider a call option and a put option both written on Neunlay, Inc. stock. Both
options have a strike price of $20 and expire in one year. The stock of Neunlay, Inc., is
currently selling for $20. In one month the stock will be at either $24 or $18. Assume
the risk-free rate is 0 percent. Which is worth more, the put option or the call option?
A)
The put option is worth more.
B)
The call option is worth more.
C)
They are worth the same.
D)
There is not enough information.
Ans:
C
put.
Fundamentals of Corporate Finance 3e Test Bank
99.
The value of call option can never be less than _____
A)
$0
B)
$1
C)
strike price
D)
value of under lying asset
Ans:
A
100.
When we consider the value of a call option at some time prior to expiration, we must:
A)
compare the current value of the underlying asset with the present value of the
cash flow by underlying asset, discounted at the risk-free rate.
B)
compare the current value of the underlying asset with the present value of the
exercise price, discounted at the risk-free rate.
C)
compare the current value of the underlying asset with the present value of the
cash flow by underlying asset, discounted at the nominal rate.
D)
compare the current value of the underlying asset with the present value of the
exercise price, compounded at the nominal rate.
Ans:
B
Learning Objective: LO 2
Level of Difficulty: Hard
101.
Which of the following is true of a call option?
A)
The value of a call option must be less than or equal to $0.
B)
The value of a call option cannot be lower than the value of the underlying asset.
C)
The value of a call option prior to expiration will never be less than the value of
the option if it were exercised immediately.
D)
A call option protects the seller from price volatility.
Ans:
C
Fundamentals of Corporate Finance 3e Test Bank
102.
A)
$9.10
B)
$12.20
C)
$6.20
D)
$8.92
Ans:
A
Fundamentals of Corporate Finance 3e Test Bank
103.
Trerec Co. is a privately owned oil drilling and refinery company with a significant
amount of debt. Most of the company’s cash flows come from the financially stable
refinery unit of the business. With only the assets in place, the company is very likely
to avoid financial distress for the foreseeable future. Avoiding financial distress is very
important to the owners, who founded the company. The company is considering a new
oil drilling project, determined to have a positive NPV. Because of the nature of oil
prices, the project is very risky. At any oil price above $115, the project would add
value to the company. However, if oil prices were to fall below $95 the losses could
push the entire business into financial distress. Assume the risk-free interest rate is 0
percent. Which of the following strategies would allow the firm to pursue the positive
NPV project while hedging the oil price risk?
A)
The firm purchases call options with a strike price of $130 for each barrel of oil it
expects to produce. Each option costs $6.
B)
The firm sells call options with a strike price of $130 on each barrel of oil it
expects to produce. Each option costs $6.
C)
The firm purchases put options with a strike price of $130 on each barrel of oil it
expects to produce. Each option costs $6.
D)
The firm sells put options with a strike price of $130 on each barrel of oil it
expects to produce. Each option costs $6.
Ans:
C
Fundamentals of Corporate Finance 3e Test Bank
104.
Consider a corn farmer who expects to produce 55,000 bushels of corn at the end of this
season. To hedge the risk associated with corn prices, the farmer purchases put options
to cover his entire crop. The put options have a strike price of $8.50 per bushel and a
premium of $0.40 per bushel. He also sells an equal amount of call options with a strike
price of $8.50 per bushel and a premium of $0.53 a bushel. Which of the following
statements is correct?
A)
From this transaction the farmer can pocket $7,500 immediately.
B)
If corn prices go up substantially, the farmer will earn more money.
C)
The put options guarantee that the farmer will receive at least $7.63 per bushel at
the end of the season.
D)
The farmer has guaranteed that he will sell his corn for $8.50 a bushel.
Ans:
D
105.
Consider a lease agreement recently offered by a car dealership. The agreement gives
the customer the right to use a new SUV for 4 years in exchange for payments of $650
per month. At the end of the lease, the customer can choose to purchase the SUV for
$18,000. What sort of option does this resemble?
A)
A put option on the SUV with a strike price of $18,000
B)
A call option on the SUV with a strike price of $18,000
C)
A put option on the SUV with a strike price of $17,800
D)
A call option on the SUV with a strike price of $17,800
Ans:
B
Fundamentals of Corporate Finance 3e Test Bank
106.
Neunlay Inc., is a manufacturer of residential air conditioning equipment. Air
conditioning equipment requires a lot of copper. In six months the company will
purchase its copper supply for the next two years. Management is very concerned about
the volatility of copper prices. Assume the risk-free rate of interest is 0 percent. Which
of the following transactions will ensure the company does not have to pay more than
$6,100 per ton of copper six months from now?
A)
The company purchases a put option for the necessary amount of copper with a
strike price of $6,000 per ton, a premium of $100 per ton, and an expiration date
six months from now.
B)
The company purchases a call option for the necessary amount of copper with a
strike price of $6,000 per ton, a premium of $100 per ton, and an expiration date
six months from now.
C)
The company sells a put option for the necessary amount of copper with a strike
price of $6,000 per ton, a premium of $100 per ton and an expiration date six
months from now.
D)
The company sells a call option for the necessary amount of copper with a strike
price of $6,000 per ton, a premium of $100 per ton, and an expiration date six
months from now.
Ans:
B
Fundamentals of Corporate Finance 3e Test Bank
107.
Describe the difference between American call options and American put options.
Include in your answer a description of the option premium, the option strike price, the
expiration date, and the payoff function.
Fundamentals of Corporate Finance 3e Test Bank
108.
Name the factors that affect the value of a call option and explain the direction of the
effects.
Fundamentals of Corporate Finance 3e Test Bank
109.
You’re brought in to consult on a project for Sanpharm Corp., which is considering
whether or not to build a new high-tech manufacturing facility. Give four examples of
real options that you would consider when evaluating the project.
Fundamentals of Corporate Finance 3e Test Bank
110.
What are agency costs in corporate finance, and how do they relate to options?