Question 1 (2 points) In saying stockholders have a residual claim to income it

Question

Question 1 (2 points)

In saying stockholders have a residual claim to income it is best described as meaning

Question 1 options:

a)

Stockholders have claim to all dividends paid

b)

Stockholders are the owners of all earnings, whether the company pays out those earnings or not

c)

Stockholders do not have a claim to a company’s earnings

d)

None of the above best describe this

Question 2 (2 points)

The least risky debt is

Question 2 options:

a)

Secured debt

b)

Debenture

c)

Subordinated debenture

d)

All are equally risky

Question 3 (2 points)

In bonds, the maturity date refers to the

Question 3 options:

a)

Initial value of the bond

b)

Actual interest rate the bond pays to the bondholder

c)

The date on which the bond is repaid by the company

d)

The yield required by the market

Question 4 (2 points)

Inflation premium is

Question 4 options:

a)

The rate of return the investor demands for giving up the current use of funds on a noninflation-adjusted basis

b)

A premium an investor requires to compensate for the eroding effect of inflation

c)

The premium associated with special risks of a given investment

d)

The sum of the real rate of return and the inflation premium

Question 5 (2 points)

A bond’s price is based on

Question 5 options:

a)

The market’s perception of the issue’s risk

b)

The present value of the bond’s interest payments

c)

The present value of the bond’s principle payment

d)

All of the above

a)

Stockholders have claim to all dividends paid

b)

Stockholders are the owners of all earnings, whether the company pays out those earnings or not

c)

Stockholders do not have a claim to a company’s earnings

d)

None of the above best describe this

Explanation / Answer

Question 1 -

Answer - b) Stockholders are the owners of all earnings, whether the company pays out those earnings or not.

Reason - The stock of the company represents the ownership of the company and ultimately all the net earnings is accumulated wealth of the company which is divided among the stockholders. When the company pays out dividend the stockholder has the right to claim the dividend and when the company doesn't pay it goes to the reserves which adds to the wealth of shareholder.

Question 2 -

Answer - a) Secured debt

Reason : Secured debt is less risky since the repayment of debt is secured by some charge created on the asset and during liquidation the borrower had to pay this ahead of other debt instruments.

Whereas,

i) subordinated debenture is a debt which ranks after other debts when the company goes into liquidation.
ii) Debenture usually issued without any security. In such cases the borrower will have to repay only after repaying other debts.

Question 3 -

Answer - c) The date on which the bond is repaid by the company
Reason : The maturity date is the date on which the company is entitled to repay the debt to the lender.

Question 4 -

Answer - b) A premium an investor requires to compensate for the eroding effect of inflation.

Definition : An inflation premium is the part of prevailing interest rates that results from lenders compensating for expected inflation by pushing nominal interest rates to higher levels.

Question 5 -

Answer - d) All the above

Reason : The price of bond is determined by the present value of interest and principal repayment of bond at the rate of market risk. Formula for the same is as follows :

PV of (interest payment + princile repayment) at the rate of market risk.

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