Chapter 16 Test Bank – Static Key
1. Although the times interest earned ratio of many corporations went down tremendously during the 2007–
2008 financial crisis, the ratio has been increasing steadily mainly because companies took advantage of
the recent low interest rates.
2. One of several reasons that companies might choose to issue bonds is to shift their capital structure
from more equity ownership to more debt borrowing.
3. Homebuilding companies, like D.R. Horton Inc., realized significant losses in 2008–2009, but have
realized gains since then.
4. Par value and face value on a bond generally are the same.
5. A bond indenture is a bond with no specific collateral securing it.
6. When a company defaults on a secured debt, it is rare for the secured asset to be sold and the proceeds
distributed to the debtor.
7. Debentures are commonly issued by small companies.
8. When a company is obligated contractually to pay interest on debt, it must pay the interest even if it
shows no profit for the year, or else it may go bankrupt.
9. Bonds may be recalled only if there is a specific call provision in the bond.
10. The fact that interest payments on debt are fixed is both an advantage and a drawback to both parties
involved.
11. An after-acquired property clause means that any new property acquired is placed under the original
mortgage claim.
12. If a corporation offers greater protection to a given class of bondholders, it must raise the interest rate
on its bonds to make them more attractive to investors.
13. Because of the legal problems associated with specific asset claims in a secured bond offering, the
trend is for companies to issue more debentures.
14. During a default situation, a bondholder is better off with a secured loan because debenture bonds
don’t give the bondholder any protection.
15. The call feature is usually advantageous to the bondholder.
16. The call premium tends to increase with the passage of time.
17. Under a sinking fund provision, money is set aside every year until the bond matures, and then the
money is used to repay the principal.
18. A bondholder is one that buys the bond, while the bond issuer is the one that sells the bond.
19. In the U.S., bond issuers can be either corporations or the government.
20. Long-term bond prices are more volatile than short-term bond prices, given an equal percentage
change in the interest rate.
21. The value of bonds will move in the opposite direction from the market interest rates.
22. If you expect interest rates to go up, you should buy a long-term bond now.
23. If you expect interest rates to go up, you should sell a long-term bond now.
24. The “yield to maturity” is the internal rate of return on a bond.
25. The coupon rate is the actual interest that the seller pays, which may not equal the amount that the
seller incurs for an expense.
26. During economic upswings, spreads between bonds of different ratings tend to widen.
27. When interest rates rise, bond refunding becomes quite popular.
28. As interest rates decline, bond refunding should become more common.
29. Refunding a bond occurs when the company sells more bonds of the same series with maturity and a
coupon equal to the bonds sold earlier.
30. A bond can only be easily refunded if it has a call feature.
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31. The costs of bond refunding are the call premium and the underwriting costs on the old and new bond
issue.
32. The payment of a call premium may generally be taken as an immediate tax write–off.
33. The costs of bond refunding are the call premium and the underwriting cost on the new bond issue.
34. The weighted average cost of capital is generally used as the discount rate in a bond-refunding
decision.
35. Zero-coupon bonds are sold at a deep discount primarily because investors are not interested in
owning them.
36. Zero-coupon bonds are more risky then other bonds because there is no interest payments involved
during the life of the bond.
37. The prices of zero-coupon bonds tend to react violently to large swings in interest rates.
38. Zero-coupon bonds are sold at face value because no interest is paid.
39. The difference between the initial bond price and the maturity value is amortized for tax purposes over
the life of a zero-coupon bond.
40. An advantage of the zero coupon bond is that there is no coupon, so the yield to maturity is locked in
for the life of the bond.
41. The disadvantage of a zero-coupon bond to an investor is that the annual increase in the bond is
taxable as ordinary income and no annual cash pay mentsare received to pay for the tax charges.
42. The primary advantage of investing in floating rate bonds is that the bonds will maintain a more stable
market value within a reasonable limit.
43. The initial floating rate bond price is inversely related to changes in interest rates.
44. A floating rate bond has a reasonably stable price, but actual interest payments received change often
over the life of the bond.
45. A Eurobond is a bond payable in the borrower’s currency but sold outside the borrower’s country.
46. In an inflationary economy, debt is adjusted for inflation and must be paid back with “more expensive
dollars.”
47. A capital (or “financing”) lease usually calls for an annual expense deduction equal to the lease
payment.
48. Lease obligations, whether capital or operating, currently appear only in the footnotes of U.S. corporate
financial statements.
49. The lessee is the one making the rental payments, while the lessor is the one receiving the rental
payments.
50. In an operating lease situation, the lessee shows the asset and the debt on its financial statements.
51. Leasing land through an operating lease provides a tax advantage to the lessee in that lease payments
are tax-deductible, while there is no deduction for the landowner.
52. The essence of the treatment of long-term, non-cancelable capital leases is the same as if the company
had borrowed the money and bought the asset.
53. The inclusion of leases on the balance sheet as an asset and liability has lowered firm’s debt-to-equity
ratio.
54. An operating lease is generally a long-term, non-cancelable obligation.
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55. A capital lease has many of the characteristics of a long-term debt obligation.
56. Bond refunding is generally advantageous to the investor because the investor gets a higher future
interest rate.
57. Many companies try to maintain investment grade status due to the significant yield differential when
rated with a junk-bond status.
58. Bond ratings start with Aaa and end with C or Aaa1 and end with C3.
59. A low bond ratings during a bad economic time means that the company will have to pay higher
interest.
60. Yield spreads between investment grade and junk bond ratings are usually greater during economic
boom periods.
61. A challenge for multinational corporations is trying to get the right financing for certain operating activity
expectations.
62. The coupon rate of the bond varies indirectly with changes in market interest rates.
63. Senior debentures usually provide lower interest rates than junior secured debt.
64. Bonds provide stable pricing because they offer a fixed coupon rate and maturity date unlike stocks.
65. The greater use of debt by corporations since the late 1970s is best shown by the
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66. The main cause for the increase in corporate debt in America is
67. The term debenture refers to
68. The document that outlines the covenants and duties existing between bondholders and the issuing
corporation is called
69. Which of the following bonds offers the most security to the bondholder?
70. An indenture is
71. A debenture represents
72. Which of the following is the lowest in priority of claims against a bankrupt firm?
73. Many bonds have some orderly, pre planned, alternative system of repayment. Which of the following
apply?
74. A serial bond repayment plan involves a(n)
75. Which of the following best represents the hierarchy of creditor and stockholder claims?
76. A “subordinated debenture”