72) A star basketball player signs a contract that newspaper reports say is worth $10 million. The
player receives $5 million on signing, and $5 million a year for three years. The contract is worth
A) $10 million as reported in the papers.
B) less than $10 million since the present value of $5 million received one or more years from
now is less than $5 million.
C) more than $10 million because the present value of $5 million received one or more years
from now is more than $5 million.
D) either more or less than $10 million, depending on the value of the discount rate.
73) The difference between the nominal rate of interest and the real rate of interest is
A) handling charges.
B) government regulatory charges.
C) administrative overhead charges.
D) the anticipated rate of inflation.
74) Assuming a market rate of interest equal to 7 percent, what is the present value of $200 to be
received one year from today?
A) $123
B) $156
C) $187
D) $210
75) Assuming a market rate of interest equal to 7 percent and anticipated inflation is 2 percent,
what is the real (adjusted for inflation) present value of $200 to be received one year from
today?
A) $190
B) $214
C) $187
D) $210
76) How much money would you have to put into a savings account today to be worth $500
three years from now at a market rate of interest equal to 8 percent?
A) $397
B) $351
C) $420
D) $459
77) If the bank advertises 6 percent annual interest rate on a one-year certificate of deposit and
you anticipate the rate of inflation to rise to 3 percent during the year, then the real rate of
interest on the certificate of deposit is
A) 9 percent.
B) 6 percent.
C) 3 percent.
D) 2 percent.
78) The rate of interest that you pay on a home loan depends upon all of the following EXCEPT
A) the supply of houses in the real estate market.
B) the length of the loan.
C) your credit rating.
D) handling charges or loan fees.
79) What is the present value of $104.25 that you could receive one year from now, given that
the rate of interest is 4.25 percent?
A) $108.50
B) $0.00
C) $4.25
D) $100.00
80) What is the real (adjusted for inflation) present value of $104.25 that you could receive one
year from now, given that the rate of interest is 4.25 percent and the anticipated rate of inflation
is 1 percent?
A) $99.05
B) $100.97
C) $107.64
D) $100.00
81) The higher the expected rate of inflation,
A) the lower is the nominal rate of interest.
B) the higher is the real rate of interest.
C) the lower is the real rate of interest.
D) the higher the real and nominal rates of interest.
82) The greater the risk of nonrepayment of a loan, other things being equal
A) the longer is the repayment term.
B) the lower is the charged loan fees.
C) the higher is the rate of interest.
D) the smaller is the amount of collateral that is used.
83) Present value is
A) unrelated to the rate of interest.
B) lower the longer the time horizon.
C) not expressed in today’s dollars.
D) opposite the time value of money.
84) The real interest rate is the
A) nominal interest rate plus the anticipated interest rate.
B) nominal interest rate minus the anticipated interest rate.
C) nominal interest rate plus the anticipated inflation rate.
D) nominal interest rate minus the anticipated inflation rate.
85) If the interest rate is 10 percent per year, and you have $100,000 now, which of the following
is closest to what your $100,000 will be worth in one year?
A) $105,000
B) $110,000
C) $100,000
D) $102,000
86) The ABC Corporation earned a real rate return of 4.5 percent on an investment. In the
economy, the nominal rate of interest was 6 percent and the rate of inflation was 3 percent. We
can conclude that
A) the investment was unprofitable.
B) the investment was profitable.
C) the real rate of interest was 9 percent.
D) the real rate of interest was 1.5 percent.
87) Last year, the nominal interest rate was less than the anticipated rate of inflation.
A) This means that not enough loans were made by banks.
B) This means that the real interest rate was negative.
C) This means that the real interest rate was very high.
D) This scenario is not possible.
88) If the interest rate is 10 percent per year, and you have $100,000 now, which of the following
is closest to what your $100,000 will be worth in three years?
A) $155,000
B) $115,000
C) $120,000
D) $133,000
89) If the interest rate is 10 percent per year, and you have $100,000 now, which of the following
is closest to what your $100,000 will be worth in four years?
A) $175,000
B) $125,000
C) $146,000
D) $190,000
90) Suppose someone offered to give you $1,000,000 five years in the future and the anticipated
interest rate is 5 percent. The present value of this offer would be worth approximately
A) $784,000.
B) $500,000.
C) $1,050,000.
D) $286,000.
91) What are the two meanings of interest in economics?
92) Do people make decisions on the basis of the nominal interest rate or the real interest rate?
What is the relationship between the two interest rates?
93) How is inflation related to interest rates?
94) What is the main purpose of an interest payment? What major factors affect interest rates?
95) You have won the lottery. There are two payment options for you. The first option is a lump
sum payment of $10 million that you will receive immediately. The second option is an annual
payment of $1 million for each of the next 12 years. Assume there is no inflation. How would
you make a decision between the two options?
21.4 Corporate Financing Methods
1) A shareholder in a corporation
A) may not sell his or her share of ownership in the business without the business dissolving.
B) can earn interest, but not dividends, from the profits of the business.
C) is a part owner of the business.
D) is personally liable for the debts of the corporation.
2) The part of corporate profits that is paid to the shareholders of a corporation is
A) retained earnings.
B) shareholders.
C) dividends.
D) business revenue.
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3) Each of the following is a source of financial capital for a corporation EXCEPT
A) issuing new stock.
B) reinvestment of profit or retained earnings.
C) issuing bonds or borrowing funds from a bank.
D) dividends.
4) Corporations are able to raise large amounts of financial capital because
A) of the tax breaks corporations are given relative to partnerships or proprietorships.
B) of the elimination of the problem of separation of ownership and control.
C) of limited liability and the treatment of a corporation as an individual entity.
D) of their greater ability to monitor the performance of decision makers.
5) In which of the following ways can a corporation raise new funds for investment?
I. Issuing new shares of stock
II. Having existing stock resold between two owners
A) I only
B) II only
C) Both I and II
D) Neither I nor II
6) A difference between a share of stock in a corporation and a corporate bond is that
A) the share of stock is a legal claim while the bond is not.
B) the bond owner has voting rights within the corporation whereas the stockholder does not.
C) the bond owner is entitled to receive a fixed annual coupon payment plus a lump-sum
payment at the bond’s maturity date, whereas the stockholder is entitled to a share of future
profits.
D) stocks are issued in return for funds that are lent to the corporation.
7) The owners of preferred stock
A) receive preferential treatment in the payment of dividends.
B) have the same voting rights as owners of common stock.
C) are the original owners of the corporation.
D) have the same rights as bondholders.
8) When a firm uses profits to purchase new capital equipment, it is engaging in
A) tax evasion.
B) balance sheet accounting.
C) reinvestment.
D) the most risky way the firm can obtain investment funds.
9) A share of stock in a corporation is
A) a guarantee to a fixed amount of income from the corporation.
B) a legal claim to a lump-sum payment at a specified point of time in the future.
C) a legal claim to a dividend, regardless of the corporation’s ability to pay its interest payments.
D) a legal claim to a share of the company’s future profits.
10) The person least likely to receive a payment from a corporation in a year of losses is the
A) bank that loaned money to the corporation.
B) bondholder.
C) preferred stockholder.
D) common stockholder.
11) If profits are reinvested in the corporation, then
A) payments made to bondholders will be less.
B) there are fewer funds available to distribute to stockholders.
C) the company will sell more bonds in order to pay dividends to stockholders.
D) the high profits indicate that common stockholders will get larger dividends than normal.
12) If you want a say in the management of a corporation, you should buy
A) common stock.
B) preferred stock.
C) bonds.
D) either bonds or preferred stock.
13) A legal claim against a firm that usually entitles the owner of the claim to receive a fixed
annual coupon payment, plus a lump-sum payment at some future date, is known as
A) a bond.
B) a share of common stock.
C) a share of preferred stock.
D) a reinvestment coupon.
14) An investor who owns preferred stock has
A) regular voting rights.
B) preferential treatment in the payment of dividends.
C) the same rights as a bond holder.
D) unlimited liability for the debts of the firm.
15) Bond coupon payments represent
A) dividends paid to owners.
B) interest on the amount borrowed.
C) capital gains for tax purposes.
D) payments to preferred shareholders.
16) Which of the following modern methods of financing a corporation was not available to
corporations four hundred years ago?
A) selling stock
B) selling bonds
C) reinvestment.
D) All of these methods were used then as well as now.
17) A legal claim to a part of a corporation’s future profits is called
A) a bond.
B) a share of stock.
C) a dividend.
D) a financial debt.
18) Which legal claim comes with voting rights?
A) common stock
B) preferred stock
C) bond
D) reinvestment
19) Which legal claim has a fixed annual coupon payment?
A) common stock
B) preferred stock
C) bond
D) reinvestment
20) Which legal claim comes with the most preferential treatment in the payment of dividends?
A) common stock
B) preferred stock
C) bond
D) reinvestment
21) Which of the following is NOT a principal method of financing today?
A) common stock
B) bond
C) reinvestment
D) the entrepreneur’s wealth
22) A bond is
A) a legal claim to a part of a corporation’s future profits that includes voting rights.
B) a legal claim to a part of a corporation’s future profits that does not include voting rights.
C) a legal claim against a firm, providing a fixed annual coupon payment and a lump-sum
payment at maturity.
D) a nonlegal promise to provide an annual payment to the holder when the corporation makes
profits.
23) The most important source of financial capital for firms today is
A) sale of bonds.
B) sale of new issues of stock.
C) trade of previously issued stock.
D) reinvestment of profits.
24) The person most likely to receive a payment from a corporation in a year of losses is the
A) bondholder.
B) common stockholder.
C) preferred stockholder.
D) investment banker.
25) The more profits are reinvested into the firm, the
A) less there is available to distribute to bondholders.
B) less there is available to distribute to stockholders.
C) more the firm will be able to raise in sales of new issues to stock.
D) more bonds the firm will sell in order to pay their required dividends to preferred
stockholders.
26) A person who is willing to bear more risk will buy
A) common stock.
B) preferred stock.
C) bonds.
D) government bonds.
27) The three primary sources of corporate funds are
A) banks, friends, and family.
B) government, other corporations, and the central bank.
C) investment banks, brokerages, and insurance companies.
D) stocks, bonds, and reinvestment of profits.