Fundamentals of Corporate Finance 3e Test Bank
Chapter 9: Stock Valuation
1. Equity securities are certificates of ownership of a corporation.
A) True
B) False
2. The stocks owned by households represent about 35% of the total value of all corporate equity.
A) True
B) False
3. A large number of investors in equities actually own through pension or retirement funds.
A) True
B) False
4. Companies raise capital in secondary markets by issuing new securities.
A) True
B) False
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5. An active secondary market for debt or equity securities makes raising new capital less expensive
for firms.
A) True
B) False
6. For investors, the function of secondary markets is to provide marketability for the securities they
own at a fair price.
A) True
B) False
7. Secondary market transactions in the United States mostly take place over the counter and not in
exchanges.
A) True
B) False
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8. In terms of market capitalization (total stock value) of the firms listed, the NYSE is the largest in
the world and NASDAQ is the second largest.
A) True
B) False
9. Direct search markets provide the best price information.
A) True
B) False
10. Direct search is the least efficient type of secondary market.
A) True
B) False
11. For a commission fee less than the cost of direct search, brokers give investors an incentive to make
use of the information by hiring them.
A) True
B) False
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12. A broker market eliminates the need for time-consuming search for a fair deal by buying and
selling immediately from its inventory of securities.
A) True
B) False
13. NASDAQ is the best-known example of a direct market.
A) True
B) False
14. In an auction market, buyers and sellers confront each other directly and bargain over price.
A) True
B) False
15. The New York Stock Exchange is the best-known example of an auction market.
A) True
B) False
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16. The common stockholders of a company have unlimited liability.
A) True
B) False
17. Preferred stockholders are not guaranteed any dividend payments and have the lowest-priority
claim on the firm’s assets in the event of bankruptcy.
A) True
B) False
18. Preferred dividend payments are fixed obligations of the firm, similar to the interest payments on
corporate bonds.
A) True
B) False
19. The market considers preferred stock to be a debt security because the dividend payment is a fixed
contractual obligation and has credit ratings like bonds.
A) True
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B) False
20. Valuation of common and preferred stock is done using a different valuation formula than that used
for bonds.
A) True
B) False
21. In the general dividend-valuation model, the price of a share of stock is the present value of all
expected future dividends.
A) True
B) False
22. For a company that has no growth, dividends stay constant over time.
A) True
B) False
Fundamentals of Corporate Finance 3e Test Bank
23. A fast growing company will pay constant dividends over a period of time.
A) True
B) False
24. The constant-growth stock has dividends growing at a constant rate over time.
A) True
B) False
25. The constant-growth dividend model tells us that the current price of a share of stock is the next
period dividend divided by the difference between the discount rate and the dividend growth rate.
A) True
B) False
26. Whenever the constant-growth rate for dividends exceeds the required rate of return on the common
stock, the constant-growth model provides invalid solutions.
A) True
B) False
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27. The value of a supernormal growth stock is the present value of the mixed growth dividend
payments and the present value of the constant-growth dividend payments.
A) True
B) False
28. Failure to pay a preferred dividend signals to the market that the firm is in serious financial trouble.
A) True
B) False
29. Preferred stock with no fixed maturity can be valued as a perpetuity.
A) True
B) False
30. The bond valuation model can be used to value perpetual preferred stocks.
A) True
B) False
Fundamentals of Corporate Finance 3e Test Bank
31. The stocks owned by ––––– represent about 35 percent of the total value of all corporate equity.
A) mutual funds.
B) pension funds.
C) foreign investors.
D) households.
32. Which of the following statements is true about secondary markets?
A) In secondary markets, outstanding shares of stock are bought and sold among investors.
B) Most secondary market transactions directly affect the capital of the firm that issues the securities.
C) An active secondary market causes firms to sell their new debt or equity issues at a higher
transaction cost of funds.
D) All of the above statements are true
33. Which of the following statements is true about secondary markets in the United States?
A) In terms of market capitalization (total stock value) of the firms listed, the NASDAQ is the largest
in the world and the NYSE is the second largest.
B) NASDAQ is an OTC (over-the-counter) market.
C) Firms listed on the NASDAQ tend to be, on average, larger in size, and their shares trade more
frequently than those traded on NYSE.
D) In the United States, most secondary market transactions are done over the counter.
Fundamentals of Corporate Finance 3e Test Bank
34. Which of the following statements is NOT true about secondary markets?
A) In terms of market capitalization (total stock value) of the firms listed, the NASDAQ is the largest
in the world and the NYSE is the second largest.
B) NASDAQ is the second-largest stock market in the United States.
C) Firms listed on the NYSE tend to be, on average, larger in size and their shares trade more
frequently than those traded on NASDAQ.
D) In the United States, most secondary market transactions are done on one of the many stock
exchanges.
35. In comparison to the NYSE,
A) NASDAQ has less company listed.
B) total share volume is lower on the NASDAQ.
C) firms listed on the NASDAQ tend to be smaller.
D) NASDAQ firms exceed NYSE listed firms in total capitalization.
36. Direct search markets are characterized by:
A) complete price information.
B) extensive broker and dealer participation.
C) private placement transactions and sale of common stock of small private companies.
D) a high level of efficiency.
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37. The least efficient of all the different types of secondary markets is the:
A) auction market.
B) direct search market.
C) dealer market.
D) broker market.
38. Which of the following statements is NOT true about broker markets?
A) Brokers bring buyers and sellers together to earn a fee, called a commission.
B) Brokers’ extensive contacts provide them with a pool of price information that individual investors
could not economically duplicate themselves.
C) Investors have an incentive to hire a broker because what they charge as a commission is less than
the cost of direct search.
D) Brokers can guarantee an order because they have an inventory of securities.
39. In brokered markets:
A) the commission charged by brokers is a lower cost to buyers and sellers than the cost of direct
search.
B) buyers and sellers are brought together for a commission.
C) brokers build a pool of price information through their extensive contacts.
D) All of the above are true of broker markets.
40. Which of the following statements is true about dealer markets?
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A) NYSE is the best-known example of a dealer market.
B) A dealer market involves time-consuming search for a fair deal.
C) The advantage of a dealer over a brokered market is that brokers cannot guarantee that an order will
be executed promptly, while dealers can, because they have an inventory of securities.
D) All of the above are true of dealer markets.
41. Dealer markets are characterized by:
A) no time-consuming search for a fair deal.
B) a guarantee of order fulfillment because the dealer holds an inventory of securities.
C) improved market efficiency because dealers provide continuous bid and ask prices for securities.
D) All of the above characterize dealer markets.
42. Which of the following statements is NOT true about auction markets?
A) In an auction market, buyers and sellers confront each other directly and bargain over price.
B) The participants can only communicate orally in auction markets.
C) The New York Stock Exchange is the best-known example of an auction market.
D) The auctioneer in an auction market is the specialist, who is designated by the exchange to
represent orders placed by public customers.
43. Which of the following statements is NOT true about common stock?
A) Common-stock holders have the right to vote on the election of the board of directors of their
company.
B) Common stock is considered to have no fixed maturity.
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C) Owners of common stock are guaranteed dividend payments by the firm.
D) Common-stock holders have limited liability toward the obligations of the corporation.
44. Which of the following statements is true about common stock?
A) Common stock is considered to have a fixed maturity.
B) Owners of common stock are guaranteed dividend payment by the firm.
C) Owners of common stock have the lowest-priority claim on the firm’s assets in the event of
bankruptcy.
D) Common-stock holders have unlimited liability toward the obligations of the corporation.
45.
Which of the following is NOT a widely known stock market index?
A
The Dow Jones Industrial Average
B
The OTQ Composite Index
C
The New York Stock Exchange Index
D)
The Standard and Poor’s 500 Index
46. Which of the following statements is NOT true about preferred stock?
A) Preferred stock represents ownership in the firm.
B) Preferred stockholders are not eligible for guaranteed dividend payments by the firm.
C) Preferred stock dividends are paid by the issuer with after-tax dollars.
D) Preferred stock holders have limited voting privileges relative to common-stock owners.
Fundamentals of Corporate Finance 3e Test Bank
47. Which of the following statements is NOT true about preferred stock?
A) Preferred dividend payments are paid by the issuer with after-tax dollars.
B) Preferred dividends are tax deductible just like the interest on bonds.
C) Preferred stock holders have limited voting privileges relative to common-stock owners.
D) Preferred stocks are generally viewed as perpetuities because they have no fixed maturity.
48. Owners of preferred stock:
A) have limited voting rights.
B) usually receive fixed dividend payments.
C) are given priority treatment over common stock with respect to dividends payments, and the claims
against the firm’s assets in the event of bankruptcy or liquidation.
D) All of the above statements are true.
49. Preferred stock is sometimes treated like a debt security because:
A) legally preferred stock is a debt security.
B) preferred dividend payments are similar to bond interest payments and are fixed in nature
regardless of the firm’s earnings.
C) preferred dividends are deductible from taxable income just like interest payments on bonds.
D) preferred stock holders receive a residual value and not a stated value.
Fundamentals of Corporate Finance 3e Test Bank
50.
Which of the following statements is true?
A)
Preferred stockholders are considered to be the true owners of public corporations.
B)
Dividends paid to preferred stockholders are not fixed.
C)
Preferred stockholders do not typically have voting rights.
D)
Preferred stock can never be converted to common stock.
51. Applying the valuation procedure to common stocks is more difficult than applying it to bonds
because:
A) the size and timing of the dividend cash flows are less certain than the coupon payments for bonds.
B) common stocks have no final maturity date.
C) unlike the rate of return, or yield, on bonds, the rate of return on common stock is not directly
observable.
D) All of the above are true.
Fundamentals of Corporate Finance 3e Test Bank
52.
Assume that you are considering the purchase of a stock which will pay dividends of $4.50
during the next year. Further assume that you will be able to sell the stock for $85.00 one
year from today and that your required rate of return is 15 percent. How much would you
be willing to pay for the stock today? (Round off to the nearest $0.01)
A)
$89.50
B)
$65.37
C)
$94.10
D)
$77.83
Ans:
D
53. Which of the following statements is NOT true about the general dividend valuation model?
A) The model does not assume any specific pattern for future dividends, such as a constant growth
rate.
B) It makes a specific assumption about when the share of stock is going to be sold in the future.
C) The model calls for forecasting an infinite number of dividends for a stock.
D) The price of a share of stock is the present value of all expected future dividends.
Fundamentals of Corporate Finance 3e Test Bank
54.
Which of the following statements is true about the general dividend valuation model?
A)
It implies that the underlying value of a share of stock is determined by the market’s
expectations of the future dividends that the firm will generate.
B)
It implies that the value of a firm’s common stock can be determined only if the expected
future dividends are infinite.
C)
It implies that the value of a growth stock can be determined by forecasting the future
price of the stock.
D)
The model cannot be used to calculate the value of a common stock unless the dividends
exceed the firm’s expected growth rate.
55. Which of the following statements is true about growth stocks?
A) These are stocks of firms that grow their sales at above-average rates and are expected to do so for a
length of time.
B) These are stocks of firms that grow their earnings at above-average rates and are expected to do so
for a length of time.
C) They generally pay dividends during their fast growth phase.
D) None of the above.
56. Which of the following are the three simplifying assumptions that cover most stock growth
patterns?
A) Dividends remain constant over time, dividends grow at a constant rate, and dividends are equal to
zero.
B) Dividends have a zero-growth rate, dividends grow at a varying rate, and dividends are equal to
zero.
C) Dividends remain constant over time, dividends grow at a constant rate, and dividends have a
mixed growth pattern.
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D) None of the above.
57. Which of the following statements is NOT true about zero-growth stocks?
A) Dividend payment pattern remains constant over time.
B) The cash flow pattern resembles a perpetuity with a constant cash flow.
C) Dividend pattern for common stock of a company shows growth over time.
D) There is no growth in dividends over time.
58. Which of the following statements is NOT true about constant-growth stocks?
A) Cash dividend remains constant over time.
B) Mature companies with a history of stable growth show this pattern.
C) Dividends grow at a constant rate from one period to the next forever.
D) Far distant-dividends have a very small present value and add little to the stock’s price.
59. The constant-growth dividend model will provide invalid solutions when:
A) the growth rate of the stock exceeds the required rate of return for the stock.
B) the growth rate of the stock is less than the required rate of return for the stock.
C) the growth rate of the stock is equal to the risk-free rate.
D) None of the above.