đề ôn thi vào ngân hàng bằng tiếng anh

TEST BANK
ADVANCED CORPORATE FINANCE:
Policies and Strategies
Joseph P. Ogden
State University of New York, Buffalo
Frank C. Jen
State University of New York, Buffalo
Philip F. O’Connor
Southern Utah University
Prentice Hall, Upper Saddle River, New Jersey 07458
Acquisitions Editor: Mickey Cox
Associate Editor: Kevin Hancock
Project editor:
Manufacturer:

All rights reserved. No part of this book may be
Reproduced, in any form or by any means,
Without permission in writing from the publisher.
Printed in the United States of America
10 9 8 7 6 5 4 3 2
ISBN
Prentice-Hall International (UK) Limited, London
Prentice-Hall of Australia Pty. Limited, Sydney
Prentice-Hall Canada, Inc., Toronto
Prentice-Hall Hispanoamericana, S.A., Mexico
Prentice-Hall of India Private Limited, New Delhi
Prentice-Hall of Japan, Inc., Tokyo
Simon & Schuster Asia Pte. Ltd., Singapore
Editora Prentice-Hall do Brasil, Ltda., Rio de Janeiro
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
2

© 2002 Prentice Hall, Inc.

A Simon & Schuster Company
Upper Saddle River, New Jersey 07458
PREFACE
This test bank has been prepared for professors using the textbook, Advanced Corporate
Finance: Policies and Strategies, by Ogden, Jen, and O’Connor, Prentice Hall, 2000. The test
bank provides, for each chapter, sets of multiple-choice questions and essay questions. For each
multiple-choice question, the correct answer is highlighted with an asterisk (*), and if the
question involves numerical calculations, the applicable formula is provided.
Joseph P. Ogden
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
3
CONTENTS
Chapter 1………………………………………………………………………………………
5
Chapter 2………………………………………………………………………………………
8
Chapter 3………………………………………………………………………………………
12
Chapter 4………………………………………………………………………………………
17
Chapter 5………………………………………………………………………………………
20
Chapter 6………………………………………………………………………………………
22
Chapter 7………………………………………………………………………………………
26
Chapter 8………………………………………………………………………………………

30
Chapter 9………………………………………………………………………………………
34
Chapter 10……………………………………………………………………………………
38
Chapter 11……………………………………………………………………………………
43
Chapter 12……………………………………………………………………………………
45
Chapter 13……………………………………………………………………………………
48
Chapter 14……………………………………………………………………………………
51
Chapter 15……………………………………………………………………………………
53
Chapter 16……………………………………………………………………………………
56
Chapter 17……………………………………………………………………………………
61
Chapter 18……………………………………………………………………………………
64
Chapter 19……………………………………………………………………………………
67
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
4
C H A P T E R 1
Multiple Choice Questions
___ 1. For public U.S. nonfinancial firms in composite, the fractions of current assets and non-current
assets (all in book values; year-end 2000) are approximately:
Current Non-current

Assets Assets
a. 1/3 2/3 *
b. 1/2 1/2
c. 2/3 1/3
___ 2. For public U.S. nonfinancial firms in composite, the fractions of liabilities (current plus non-
current), and equities (all in book values, year-end 2000) are approximately:
Liabilities Equities
a. 1/3 2/3
b. 1/2 1/2
c. 2/3 1/3 *
___ 3. Over the years 1981-2000, 4,770 nonfinancial firms exited the U.S. markets for publicly traded
equity. Which of the following was the most frequent reason for a firm’s exit?
a. Merger or acquisition *
b. Bankruptcy or liquidation
c. The firm reverted to private equity ownership
d. The firm changed its listing to a foreign stock exchange
___ 4. What average annual proportion of the total number of public U.S. nonfinancial firms at year-end
1980 exited over the years 1981-2000 (i.e., the average attrition rate)?
a. 5.9% *
b. 15.9%
c. 25.9%
d. 35.9%
___ 5. Which category of composite assets (for public U.S. nonfinancial firms) showed the largest
proportional decrease over the years 1980-2000?
a. cash and equivalents
b. inventories
c. net PP&E *
d. other non-current assets
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
5

___ 6. Throughout the period 1980-2000, the composite proportion of the TA of U.S. nonfinancial firms
accounted for by net PP&E generally ___(i)____, and the proportion of TA financed by
equity ___(ii)___ fairly steadily.
___(i)___ ___(ii)___
a. decreased increased
b. increased decreased *
c. increased also increased
d. decreased also decreased
___ 7. Which category of liabilities & equities had the smallest proportion in every year from 1980-
2000?
a. current liabilities
b. debt
c. other non-current liabilities
d. common stock
e. preferred stock *
___ 8. For public U.S. nonfinancial firms over the years 1980-2000, the composite market-to-book
equity ratio generally:
a. increased from 1980-2000. *
b. decreased from 1980-2000.
c. remained stable from 1980-2000.
___ 9. Which groups of U.S. nonfinancial firms have the highest composite proportions of PP&E to TA?
a. S&P Industrials
b. S&P MidCaps
c. S&P SmallCaps
d. S&P Transports and Utilities *
___ 10. According to the composite sources-and-uses data presented in Chapter 1, the main net source of
funds for U.S. nonfinancial firms over the years 1980-2000 is:
a. proceeds from debt offerings.
b. proceeds from equity offerings.
c. retained earnings (net cash flow from operations). *

d. sales of investments (net of increases in investments).
___ 11. Over the 20-year period of 1980-2000, the composite dividend yield of public U.S. nonfinancial
firms has generally:
a. increased.
b. decreased. *
c. remained.
___ 12. The ownership structures of most publicly traded U.S. nonfinancial firms is better characterized
by the term:
a. closely held
b. diffuse *
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
6
Essay Questions
1. For public U.S. nonfinancial firms: Discuss evidence on changes in composite debt ratios over time
(1980-2000) and differences in composite debt ratios across types of firms (at year-end 2000).
2. For public U.S. nonfinancial firms: Discuss evidence on changes in composite market-to-book equity
ratios and composite P/E ratios over time (1980-2000).
3. For public U.S. nonfinancial firms: Discuss evidence on changes in composite dividend payout ratio
and composite dividend yields over time (1980-2000).
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
7
C H A P T E R 2
Valuation and Financing
Decisions in an Ideal
Capital Market
Multiple Choice Questions
___ 1. Which of the following assumptions of an ideal (or perfect) capital market most closely relates to
the assumed symmetry of information set shared by all firms and all investors?
a. Capital Markets are frictionless
b. Homogeneous expectations *

c. Atomistic competition
d. The firm has a fixed investment program
e. Once chosen, the firm’s financing is fixed
___ 2. Until now, Delaware East, Inc. has been an all-equity firm; its most recent market equity value
was $100 mn., and its cost of equity (and cost of assets) is 15%. Now, the firm decides to
increase its leverage by issuing $40 mn. in debt, with the proceeds being used to pay a
dividend to shareholders. The cost of the debt is r
D
=7%. What is the firm’s new cost of equity
capital, according to Modigliani and Miller’s Proposition II?
a. 15.33%
b. 18.20%
c 20.33% *
d. 22.50%
FORMULA: r
E
= r
A
+ (D/E)[r
A
- r
D
].
___ 3. Until now, Delaware East, Inc. has been an all-equity firm; its most recent market equity
value was $80 mn., and its cost of equity (and cost of assets) is 15%. Now, the firm
decides to increase its leverage by issuing $40 mn. in debt, with the proceeds being used
to pay a dividend to shareholders. The cost of the debt is r
D
=7%. What is the firm’s new
cost of equity capital, according to Modigliani and Miller’s Proposition II?

a. 15.33%
b. 18.20%
c 20.33%
d. 23.00% *
FORMULA: r
E
= r
A
+ (D/E)[r
A
- r
D
].
___ 4. Firm XYZ is currently financed entirely with equity. The market value of the firm’s assets and
equity is V
U
=E
U
=500, and the expected return on the firm’s assets and equity is r
A
=r
E
=12.5%.
Suppose the firm issues debt with a value of D
L
= 200, and uses the proceeds to retire equity.
The market value of the firm remains the same, V
L
=E
L

+D
L
=500. If the expected return on the
debt is r
D
=7%, what is the expected return on the firm’s levered equity?
a. 15.33%
b. 18.20%
c 20.33%
d. 23.00% *
FORMULA: r
E
= r
A
+ (D/E
L
)(r
A
- r
D
)
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
8
___ 5. For the equity of Delaware East, β=1.25. If the expected return on the market is 15% and the
risk-free rate is 5%, what is the expected return on the firm’s equity?
a. 12.50%
b. 15.00%
c. 17.50% *
d. 18.75%
FORMULA: r

i
= r
f
+ β
i
[r
m
-r
f
]
___ 6. The market value of Delaware East’s assets is $100 mn. The firm has one issue of pure-discount
debt outstanding which promises to pay $60 mn. in 5 years. If the standard deviation of the
firm’s assets is 22% and the risk-free rate is 5%, what are the values of the firm’s equity
and debt, based on the Black-Scholes model?
value of equity value of debt
a. $54 mn. $46 mn. *
b. $46 mn. $54 mn.
c. $38 mn. $62 mn.
d. $30 mn. $70 mn.
FORMULA: C=V*N(d) -
e
r
f
T
−
X*N(d-σ√T), where d=
ln( / ) [ ( / )]V X r T
T
f
+ + σ

σ
2
2
(Also need Cum. Normal Distr. Fn. table)
___ 7. Suppose you develop a mutual fund that includes 500 NYSE stocks, all with equal weights in
the fund’s portfolio. The average standard deviation of the stocks is 36%, and the
average pair-wise correlation among the stocks is 0.40. What is your estimate of the
standard deviation of the fund’s portfolio?
a. 19.9%
b. 22.8% *
c. 26.2%
d. 32.1%
FORMULA:
2/122
p
)](*)
N
1
1()(*
N
1
[
σρ−+σ=σ
___ 8. Suppose you develop a mutual fund that includes 78 stocks, all with equal weights in the fund’s
portfolio. The average standard deviation of the stocks is 44%, and the average pair-wise
correlation among the stocks is 0.30. What is your estimate of the standard deviation of
the fund’s portfolio?
a. 19.5%
b. 24.5% *
c. 29.5%

d. 34.5%
FORMULA:
2/122
p
)](*)
N
1
1()(*
N
1
[
σρ−+σ=σ
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
9
___ 9. Using the Binomial Model, find the value of a firm’s levered equity (E
L
) given the following
values: V=100, u=1.3, d=1/u, p=0.7, r
f
=5%, X=100, and T=3.
E
L

a. 32.34
b. 27.34
c. 23.96
d. 18.96 *
FORMULAS:
d
1L

u
1L
d
1
u
1
EE
VV
−
−
=δ
; E
L
=
T
f
u
1L
u
1
)r1/(E
1
V]
1
[V
+







−






δ
−
δ
;
)XV,0max(E);XV,0max(E
d
LT
d
LT
u
LT
u
LT
−=−=
___ 10. Using the Binomial Model, find the values of a firm’s levered equity (E
L
), and the expected return
on the equity, r
LE
, given the following values: V=100, u=1.3, d=1/u, p=0.7, r
f

=5%, X=100, and
T=3.
E
L
r
LE

a. 32.34 6.92%
b. 32.34 10.74%
c. 18.96 6.92%
d. 18.96 10.74% *
FORMULAS:
d
1L
u
1L
d
1
u
1
EE
VV
−
−
=δ
; E
L
=
T
f

u
1L
u
1
)r1/(E
1
V]
1
[V
+






−






δ
−
δ
;
)XV,0max(E);XV,0max(E
d
LT

d
LT
u
LT
u
LT
−=−=
;






−
−+






−
=
L
L
d
T
L
L

u
T
LE
E
EE
)p1(
E
EE
pr
___ 11. The expected returns on the debt and equity of a levered firm are r
E
=15% and r
D
=7%, and the
current market value of the debt and equity are E=66 and D=44, respectively. What is the
firm’s weighted average cost of capital (WACC)?
a. 7.8%
b. 9.8%
c. 11.8% *
d. 13.8%
FORMULA: WACC=r
D
(D/V)+r
LE
(E/V)
___ 12. The expected returns and standard deviations for stocks A and B are r
A
=14% and r
B
=19%,

respectively, and σ
A
=23% and σ
B
=34%, respectively. The correlation of the returns on the
two stocks is ρ
AB
=0.3. What is the expected return, r
P
, and standard deviation, σ
P
, of a
portfolio with weights of w
A
=0.60 and w
B
=0.40 in stocks A and B, respectively?
r
P
σ
P

a. 16% 22.1% *
b. 16% 24.8%
c. 17% 22.1%
d. 17% 24.8%
FORMULAS: r
p
= w
A

r
A
+ w
B
r
B
;

σ
p
= [
ABBABA
2
B
2
B
2
A
2
A
ww2ww
ρσσ+σ+σ
]
1/2

Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
10
___ 13. For your retirement fund, you have decided to place 40% of your contributions into a riskfree
asset that pays 4% interest per annum, and the remaining 60% of your contributions will
be placed in an available stock mutual fund that approximates the holdings of the mythical

market portfolio. You expect this fund to provide an average return of r
P
=9%, but will expose
you to risk, measured in terms of an estimated standard deviation of σ
P
=20%. What is your
estimate of the expected return and standard deviation of your complete portfolio, r
C
and σ
C
,
respectively?
r
P
σ
P

a. 6% 5.9%
b. 6% 20.0%
c. 7% 12.0% *
d. 7% 20.0%
FORMULAS: r
c
= w
f
r
f
+ w
p
r

p
; σ
c
= w
p
σ
p
= .6(20%)=12%
___ 14. Suppose the beta of the stock of Microsoft, Inc. is β
msft
=1.45. If r
f
=4% and r
M
=9%, what is the
equilibrium expected return on Microsoft stock, r
msft
, according to the CAPM? As an analyst
of the firms in the high-technology industry, you expect Microsoft to provide a return of 10%
over the next year. Comparing your estimate with equilibrium expected return on Microsoft
that you just calculated, would you recommend to your investors that they buy Microsoft
stock?
a. Yes: Microsoft is underpriced
b. No: Microsoft is overpriced *
FORMULA: r
f
+ β
i
[r
M

-r
f
]
Essay Questions
1. Firm XYZ is currently a privately held, all-equity firm. The firm’s shareholders are about to sell
all of the firm’s shares to the pubic in an initial public offering (IPO). Assuming that an optimal
capital structure that involves a finite proportion of debt exists for firm XYZ, present an
argument that, even though the current shareholders will present an all-equity firm to the public, the
proceeds that the current shareholders will receive will be equal to the value of the firm at
its optimal capital structure.
2. Suppose a firm is financed entirely with equity, and the current market value of its assets and
equity is V
U
=E
U
=100. As an arbitrageur, you know that if the firm was capitalized with 50%
equity and 50% debt, the market values of the debt and equity of this levered version of the
firm would be E
L
=60 and D
L
=50, respectively. What would you do?
ANSWER: Purchase the fraction α of the equity of the unlevered firm at a cost of 100α. Place
these shares in a trust, and issue debt with a value of αD
L
=50α that is a claim against the
shares in the trust, keeping the proceeds of this debt offering. Then sell this ‘levered’ trust for a
price of αE
L
=60α. Your profit will be α(50+60-100)=10α.

3. Suppose a firm is financed with 50% equity and 50% debt, and the current market value of the
firm is V
L
=100, with E
L
=50 and D
L
=50. As an arbitrageur, you know that if the firm was
financed entirely with equity, the market value of its assets and equity would be V
U
=E
U
=125.
What would you do?
ANSWER: Purchase the fraction α of both the equity and debt of this levered firm at a total cost
of αE
L
+αD
L
=100α, place these securities in a trust, and sell unlevered equity securities
against this trust, which would yield proceeds of 125α. Thus, your profit will be α(125-100).
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
11
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
12
C H A P T E R 3
Separation of Ownership and
Control, Principal-Agent
Conflicts, and Financial Policies
Multiple Choice Questions

___ 1. Transaction costs and personal taxes may affect investors’ ability to undertake arbitrage. Also, a
firm’s earnings are taxed, and interest payments are deductible while dividends are not.
These are examples of the violation of which of the assumptions of an ideal capital market?
a. Capital Markets are frictionless *
b. Homogeneous expectations
c. Atomistic competition
d. The firm has a fixed investment program
e. Once chosen, the firm’s financing is fixed
___ 2. Variation in personal tax rates and transaction costs across both investors and securities may
differentially affect the values of corporate securities. Also a firm faces substantial
transaction costs in issuing securities, which may inhibit its ability to undertake otherwise
profitable capital investments. These are examples of the violation of which of the
assumptions of an ideal capital market?
a. Capital Markets are frictionless *
b. Homogeneous expectations
c. Atomistic competition
d. The firm has a fixed investment program
e. Once chosen, the firm’s financing is fixed
___ 3. Information asymmetry is chief among violations of which of the assumptions of an ideal capital
market?
a. Capital Markets are frictionless
b. Homogeneous expectations *
c. Atomistic competition
d. The firm has a fixed investment program
e. Once chosen, the firm’s financing is fixed
___ 4. An individual investor has either sufficient wealth or sufficient borrowing capacity to purchase or
sell a substantial proportion of a given firm’s securities, so that investor’s trades may affect the
market value of these securities. This is an example of the violation of which of the
assumptions of an ideal capital market?
a. Capital Markets are frictionless

b. Homogeneous expectations
c. Atomistic competition *
d. The firm has a fixed investment program
e. Once chosen, the firm’s financing is fixed
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
13
___ 5. One principal-agent conflict is that between a firm’s creditors (as a principal) and its
shareholders (as agent). For example, after issuing risky debt, stockholders have an incentive
to increase the riskiness of the firm’s assets (e.g., by changing operating strategy), which would
tend to expropriate wealth from creditors to stockholders. Which of the assumptions of an ideal
capital market is violated in this example?
a. Capital Markets are frictionless
b. Homogeneous expectations
c. Atomistic competition
d. The firm has a fixed investment program *
e. Once chosen, the firm’s financing is fixed
___ 6. A firm initially finances its assets with specified proportions of debt and equity, and then later
issues additional debt, using the proceeds to pay a dividend to shareholders. If the new debt
has the same priority as the original debt, the value of the original debt will probably fall, an
effect called claim dilution. Which of the assumptions of an ideal capital market is violated in
this example?
a. Capital Markets are frictionless
b. Homogeneous expectations
c. Atomistic competition
d. The firm has a fixed investment program
e. Once chosen, the firm’s financing is fixed *
___ 7. The two most fundamental aspects of a corporation (as a form of business organization) that lead
to not only tremendous economies of scale and scope (as a positive) but also are linked to the
financing problems that we address in the course (as a negative) are:
a. the separation of ownership and control AND private ownership.

b. limited liability AND private ownership.
c. the separation of ownership and control AND limited liability. *
d. private ownership AND leverage.
___ 8. Nutrition, Inc., a vitamin supplement manufacturer, is financed entirely with equity that is
currently privately owned by its managers. The firm is expected to generate earnings of $5
million per year into perpetuity, and all earnings are paid out in dividends. The owner-
managers receive no additional compensation. For all of the owner-managers, their shares of
the firm’s equity account for the bulk of their personal wealth. As a result, in determining
their personal valuation of the firm they apply a high discount rate of 33% to their future
expected dividends, and thus they value the firm at $15.15 mn. (=$5 mn./0.33).
The management team has recently consulted with an investment-banking firm about selling all
of the firm’s equity publicly; that is, about going public with the firm’s shares. Assuming
that the current management will continue to operate the firm, the investment banker estimates that
the market will value the firm’s equity by applying a 25% discount rate to expected future
dividends. However, expected dividends to public shareholders will be only $4 mn., because
managers will now be paid a total of $1 mn. per year in salaries. Ignoring taxes and transaction
costs: the market value of the firm’s public shares is ___(i)___; the present value of
management’s salaries (discounted at 33% into perpetuity) is ___(ii)___ ; and therefore the
management team’s wealth gain (or loss) from going public is ___(iii)___.
___(i)___ ___(ii)___ ___(iii)___
a. $12 mn. $3.03 mn. -$0.12 mn.
b. $16 mn. $3.03 mn. $4.12 mn. *
c. $16 mn. $4 mn. $4.85 mn.
d. $12 mn. $4 mn. $0.85 mn.
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
14
___ 9. All of the following were mentioned in the text as means by which the manager of a firm may
increase his or her compensation (on a self-serving basis) EXCEPT:
a. having the firm purchase his-her principal private residence. *
b. excessive consumption of perquisites.

c. manipulation of earnings and dividends.
d. maximizing the size of the firm, rather than its value.
___ 10. All of the following were mentioned in the text as means by which the manager of a firm may
decrease the his or her personal exposure to the firm’s risk (on a self-serving basis) EXCEPT:
a. excessive corporate diversification
b. bias toward investments with near-term payoffs
c. securing his or her lifetime compensation with a property-casualty insurance policy
purchased by the firm. *
d. underemployment of debt
e. management entrenchment
f. packing the board
___ 11. Suppose a firm’s initial parameter values are: V=500, X=300, T=3, r
f
=2%,
u
3
V
=750, and
d
3
V
=333.33. Compute the current values of the firm’s debt and levered equity, D and
E
L
, respectively.
D E
L

a. 282.7 217.3 *
b. 252.7 247.3

c. 222.7 277.3
d. 200.7 300.3
FORMULAS: δ=
d
LT
u
LT
d
T
u
T
EE
VV
−
−
; E
L
=
T
f
u
LT
u
T
)r1/(E
1
V]
1
[V
+







−






δ
−
δ
;
)XV,0max(E);XV,0max(E
d
LT
d
LT
u
LT
u
LT
−=−=
___ 12. Continuing with the numbers from the previous question, compute new value of the firm’s
levered equity,
*

L
E
, after the following actions by the firm’s management: Management
issues additional pure-discount debt which has a promised payment of X’=621 at T=3 and has
the same priority as the firm’s original debt. The firm receives total proceeds of 500 for the
new debt. Management uses the proceeds to double the firm’s operations under identical
conditions, such that V*=1,000,
*u
5
V
=1,500, and
*d
5
V
=666.67.

*
L
E
a. 217.3
b. 258.3 *
c. 298.3
d. 338.3
FORMULAS:
d
LT
u
LT
d
T

u
T
EE
VV
−
−
; E
L
=
T
f
u
LT
u
T
)r1/(E
1
V]
1
[V
+






−







δ
−
δ
;
)XV,0max(E);XV,0max(E
d
LT
d
LT
u
LT
u
LT
−=−=
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
15
___ 13. The current value of levered firm ABC, Inc. is $100 million. Its capital structure consists of
equity and pure discount debt on which a payment of $80 mn. is due in 5 years. The risk-free rate
is 5%. Using the Black-Scholes Option Pricing Model, the value of the firm’s equity is ___(i)___
if σ=20%, and is ___(i)___ if σ=40%. Assuming that the increase in σ was a deliberate action of
the firm’s management designed to expropriate wealth from bondholders to stockholders, what
was the value of this expropriation?
___(i)___ ___(ii)___ __(iii)__
a. $40.3 mn. $40.3 mn. $0
b. $33.3 mn. $50.4 mn. $17.1 mn.
c. $33.3 mn. $40.3 mn. $7.0 mn.

d. $40.3 mn. $50.4 mn. $10.1 mn. *
(The BSOPM formula and values of the cumulative normal distribution function, must be
supplied.)
Essay Questions
1. Briefly discuss the effects of violations of each of the assumptions of the Ideal Capital Market listed
below.
(a) Assumption 1: Frictionless Markets;
(b) Assumption 2: All market participants share homogeneous expectations;
(c) Assumption 3: Atomistic competition;
(d) Assumption 4: The firm’s capital investment program if fixed and known;
(e) Assumption 5: Once chosen, the firm’s financing is fixed.
2. Explain the two major benefits to shareholders of the separation of ownership and control.
3. List and briefly discuss the self-serving actions that management may take to:
(a) increase their compensation.
(b) decrease the risk of their personal portfolios.
4. List and briefly discuss three actions that management can take to expropriate wealth from the firm’s
debtholders to the firm’s shareholders.
5. How do limited liability and the separation of ownership and control reflect risk aversion on the part
of the owners of (equity) capital?
6. Why is the separation of ownership and control a virtual necessity for the successful financing of
large corporations?
7. Explain the two major benefits to shareholders of the separation of ownership and control.
8. What are the three positive effects of shareholders’ diversification across firms on the market value of
a firm’s shares?
9. Why is the separation of ownership and control particularly important for a firm that operates in an
extremely competitive product market? That is, what is a critical role of management under such
circumstances?
10. Define the classical objective function of management, and describe a set of circumstances in which it
is the appropriate objective for management to follow in order to act in the shareholders’ interest.
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.

16
11. How does the stakeholder theory of the firm influence our understanding of the objective function of
management? What is the revised objective under these circumstances?
12. List and briefly discuss three self-serving actions that management may take to increase their
compensation.
13. List and briefly discuss five self-serving actions that management may take to decrease the risk of
their personal portfolios.
14. List and briefly discuss three actions that management can take to expropriate wealth from the firm’s
debtholders to the firm’s shareholders.
15. What is empire building? Why does it seem to be such a compelling goal for managers?
16. Explain the underinvestment problem for a firm that has risky debt outstanding, otherwise known as
the debt-overhang problem.
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
17
C H A P T E R 4
Information Asymmetry
And the Markets for
Corporate Securities
Multiple Choice Questions
___ 1. As Akerlof argues, sellers who have a lemon, of course, know they have lemon but are not
willing to tell the truth about the condition of their auto and, for the short selling period
involved, can put their auto in a satisfactory condition that approximates the normal condition
of the auto that are not lemons. In subsequent literature, this problem called the __________
problem.
a. informational asymmetry
b. agency
c. moral hazard *
d. certification
___ 2. Akerlof also discusses the problem of _______ in the health insurance market. Health insurers
attempt to estimate, for each individual insurance applicant, the probability that they will file

an insurance claim, and price insurance premiums accordingly. However, this is an imperfect
process, so the insurer must offer a common premium to a specified group of individuals that
reflects the average health of the individuals in the group, even though the individuals in the
group differ in terms of their health and thus the probability of a claim. Each individual knows
their own health better than the insurer, so those members of the group who are less healthy (and
thus more likely to file a claim) will be more likely to purchase insurance policy, and thus the
premium set by the insurer to reflect the average health of the entire group will be inadequate to
compensate the insurer for the ex post sub-group of individuals that actually purchase a policy.
a. adverse selection *
b. certification
c. moral hazard
d. informational asymmetry
___ 3. Which of the following was NOT mentioned by Akerlof to mitigate the lemons problem?
a. certification
b. using a costly signal
c. private negotiation *
d. establishing a reputation
e. contract enforcement
___ 4. According to the finance literature related to informational asymmetry, one of the most important
roles of an investment-banking firm (in terms of assisting a firm in issuing securities to the
public) is to vouch for the value of the security, after it has obtained confidential
information from the firm’s management about its business strategy. This vouching is
known as:
a. certification *
b. using a costly signal
c. private negotiation
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
18
d. establishing a reputation
e. contract enforcement

___ 5. Leland and Pyle (1977) examine the effect of informational asymmetries on equilibrium
corporate valuation and financial structure. The authors develop a signaling model and work
through a specific example, focusing on optimal debt levels under conditions of
asymmetric information. In their signaling model, an entrepreneur seeks financing for a
project whose true value is known only to him. Clearly, direct transfer of information to lenders
is impossible. Information may, however, be transferred by a credible signal. Here, the
signal is:
a. the entrepreneur’s willingness to include debt in the firm’s capital structure.
b. the willingness of the entrepreneur to invest in his own project. *
c. the entrepreneur’s ability to attract private equity capital.
d. the entrepreneur’s expressed willingness to remain as a manager of the firm.
___ 6. Miller and Rock (1985) developed an ingenious signaling model in which ________ by a firm
serve as powerful signals of the firm’s earnings capacity, and thus its value. Any such
_______ reveal that the firm has been generating, and is expected to continue to generate, high
net cash inflows.
a. cash payouts *
b. debt issuance
c. equity issuance
d. earnings announcements
___ 7. The leading piece of theoretical research in corporate finance is Myers and Majluf (1984). They
showed that when there is information asymmetry between the market and managers, a
pecking order emerges in terms of how the firm should obtain funds for capital investments.
Specifically, a firm would prefer to use:
a. debt, then retained earnings, and finally outside equity.
b. retained earnings, then debt, and finally outside equity. *
c. retained earnings, then outside equity, and finally debt.
d. debt, then outside equity, and finally retained earnings.
Essay Questions
1. Briefly explain the lemons problem as presented by Akerlof.
2. Briefly explain the usefulness of each of the following means of mitigating the effects of

informational asymmetry in the credit markets:
a. Screening;
b. Certification;
c. Costly Signaling;
d. Reputation.
e. Disclosure rules.
3. In Leland and Pyle’s model of the effects of informational asymmetry on ownership structure:
a. What is the costly signal employed by the entrepreneur?
b. In what sense is this a costly signal for the entrepreneur? and how does this signal lead to
separating equilibria that mitigates the informational asymmetry problem?
4. Briefly explain the lemons problem as presented by Akerlof.
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
19
5. In economic models focusing on informational asymmetry, how do we generally interpret the price of
a given asset in a pooling equilibrium? How would you describe the set of prices in a separating
equilibrium?
6. Describe the problem of moral hazard in the market for an asset fraught with informational
asymmetry and unobservable variations in the quality of the asset.
7. Describe the problem of adverse selection in the insurance market.
8. Briefly explain the usefulness of each of the following means of mitigating the effects of
informational asymmetry in the credit markets:
a. Screening;
b. Certification;
c. Costly Signaling;
d. Reputation.
e. Disclosure rules.
9. List and briefly explain the three conditions required in order for ex post contract enforcement to be
an effective means to mitigate the lemons problem in credit markets.
10. In Leland and Pyle’s model of the effects of informational asymmetry on ownership structure:
a. What is the costly signal employed by the entrepreneur?

b. In what sense is this a costly signal for the entrepreneur, and how does this signal lead to
separating equilibria that mitigates the informational asymmetry problem?
11. Discuss the pecking order hypothesis of corporate financing as Myers (1984) defined it.
12. Discuss Myers and Majluf’s (1984) theoretical model that rationalizes the pecking order hypothesis in
the context of informational asymmetry.
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
20
C H A P T E R 5
The Roles of Government,
Securities Markets, Financial
Institutions, Ownership
Structure, Board Oversight,
and Contract Devices
Multiple Choice Questions
___ 1. Under the Securities Exchange Act of 1934, Congress created the Securities and Exchange
Commission (the ‘SEC’). The SEC’s mission is to administer federal securities laws and
issue rules and regulations to provide protection for investors and to ensure that the securities
markets are fair and honest. This is accomplished primarily by:
a. creating a national system of securities brokers and dealers.
b. requiring public firms to disclose accurate and timely information to the investing public. *
c. creating a system of arbitration boards to provide judgments on investors’ complaints.
d. regulating the trading procedures in U.S. securities markets.
___ 2. Means by which the securities markets serve to mitigate principal-agent or information
asymmetry problems include all of the following EXCEPT:
a. Management realizes that its reputation with investors is valuable, and can be sustained only
if accurate information is provided on a timely basis.
b. Various market mechanisms exist to discipline a firm’s management, and thus to mitigate
conflicts of interest between management and shareholders. One of the most powerful is
the threat of a hostile takeover of the firm, after which management is fired.
c. Exchanges such as the NYSE regularly publish lists of firms that appear to be overvalued

because their management is poor. *
___ 3. Financial institutions (such as commercial banks and finance companies) play an important role
in mitigating information asymmetry problems in financial markets because:
a. they require a potential borrower to disclose confidential information about their project to
the public before they are approved for a loan.
b. they regularly receive private information from the firm about the quality of the firm’s
projects, and yet will keep such information confidential. *
c. they lend only to firms that do not suffer from information asymmetry problems.
___ 4. A firm’s board of directors has a variety of tools at its disposal to control management’s
activities, including all of the following EXCEPT:
a. Controlling the firm’s capital structure.
b. Requiring board approval of major capital expenditures, acquisitions, divestitures, security
offerings, etc.
c. requiring board approval of all mergers and acquisitions.
d. hiring outside consultants to scrutinize major projects.
e. firing the CEO.
f. ALL OF THE ABOVE ARE TOOLS AVAILABLE TO THE BOARD. *
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
21
___ 5. To mitigate deadweight costs associated with the shareholder-management principal-agent
conflict, some investors become major shareholders and attempt to influence management to
act in the best interest of shareholders. This is an example of:
a. a takeover.
b. shareholder activism. *
c. packing the board.
d. principal intervention.
Essay Questions
1. How can a firm’s internal control mechanisms, particularly a firm’s board of directors, be brought to
bear to ensure that the firm’s management acts in the shareholders’ interest?
2. List and briefly discuss the external and internal governance groups that constrain the self-interested

behavior of a public firm’s management.
3. Describe various means by which contract specifications can be used to mitigate agency costs of
debt.
4. Describe various means by which contract specifications can be used to mitigate agency costs of
managerial discretion.
5. Discuss an example each of a contract that could be used to mitigate principal-agent conflicts
between:
(a) shareholders and management; and
(b) shareholders and bondholders.
6. Briefly discuss the content of the Securities Acts of 1933 and 1934 and their relationship to the
fundamental corporate finance problems (i.e., principal-agent conflicts and information asymmetry).
7. Describe various means by which the securities markets themselves mitigate agency and
informational asymmetry problems.
8. How do financial institutions help to resolve informational asymmetry problems associated with a
firm’s issuance of securities?
9. How do financial institutions help to mitigate conflicts of interest between a firm’s (diffuse)
shareholders and its management?
10. Discuss the role of confidentiality in the context in which a firm seeks the assistance of a financial
institution to raise debt or equity capital.
11. How does the information-production function of a financial institution serve to monitor a firm’s
management?
12. Describe the tools available to a firm’s board of directors to discipline management in order to
mitigate conflicts of interest between the shareholders and management of a firm.
13. Describe various means by which contract specifications can be used to mitigate corporate financing-
related problems.
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
22
C H A P T E R 6
The Leverage Decision
Multiple Choice Questions

___ 1. Compute the present value of the tax shield generated when Smith Company issues $100 mn. in
perpetual debt with an 8% coupon rate, and uses the proceeds to retire equity. The corporate
tax rate is 34%.
a. $2.72 mn.
b. $8 mn.
c. $34 mn. *
d. 272 mn.
___ 2. In this problem, we admit only one real-world factor in an otherwise ideal capital market. This
real world factor is corporate taxation; specifically that interest payments on debt are
deductible while dividend payments are not deductible. Suppose Delaware East, Inc. has until
now been an all-equity firm with a market value of $100 mn. Now, the firm decides to
increase its leverage by issuing $40 mn. in debt, with the proceeds being used to pay a dividend
to shareholders. Assuming that this debt will be a permanent part of the firm’s capital
structure, and that the firm’s tax rate is 34%, and accounting for the deductibility of the interest on
the debt, what is the total market value of the firm after the recapitalization?
a. $113.6 mn. *
b. $100 mn.
c. $73.6 mn.
d. $13.6 mn.
FORMULA: V
L
=V
U
+τ
c
D
___ 3. The value of Jones Company as an unlevered firm is V
U
=300. However, Jones Company has
perpetual debt outstanding with a value of D=150. The rate on the firm’s debt is r

D
=7%. The
firm’s tax rate is τ
C
=34%. The firm’s expected annual after-tax cash flow to shareholders and
bondholders combined is ATCF=$40, into perpetuity. Compute the firm’s value,
*
L
V
, tax-
adjusted cost of capital,
*
A
r
, and cost of equity,
*
LE
r
.
*
L
V

*
A
r
*
LE
r
a. 300 11.4% 14.7%

b. 300 10.0% 13.0%
c. 300 11.4% 13.0%
d. 351 11.4% 14.7% *
e. 351 11.4% 13.0%
f. 351 10.0% 13.0%
FORMULAS:
*
L
V
= V
U
+ τ
c
D;
*
A
r
= ATCF/
*
L
V
;
*
A
r
= r
D









+
*
L
ED
D
+
*
LE
r








+
*
L
*
L
ED
E
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.

23
___ 4. The value of Jones Company as an unlevered firm is V
U
=200. However, Jones Company has
perpetual debt outstanding with a value of D=90. The rate on the firm’s debt is r
D
=7%. The
firm’s tax rate is τ
C
=34%. The firm’s expected annual after-tax cash flow to shareholders
and bondholders combined is ATCF=$25. Calculate the firm’s value,
*
L
V
, tax-adjusted cost
of capital,
*
A
r
, and cost of equity,
*
LE
r
.
*
L
V

*
A

r
*
LE
r
a. 230.6 10.84% 11.3%
b. 230.6 14.44% 12.3%
c. 230.6 10.84% 13.3% *
d. 268.0 10.84% 11.3%
e. 268.0 14.44% 12.3%
f. 268.0 10.84% 13.3%
FORMULA:
*
L
V
= V
U
+ τ
c
D;
*
A
r
= ATCF/
*
L
V
;
*
A
r

= r
D








+
*
L
ED
D
+
*
LE
r








+
*
L

*
L
ED
E
___ 5. The tradeoff in the traditional tradeoff theory of optimal capital structure is between:
a. agency costs of debt and information asymmetry costs of debt.
b. the tax benefit of debt and the expected costs of future financial distress. *
c. the tax benefit of debt and agency costs of debt.
___ 6. Firm XYZ is currently financed entirely with equity that has a total market value of $900 mn.
The firm’s management is considering engaging in a debt-for-equity swap to add leverage to
the firm’s capital structure. Management recognizes two factors that would affect the
value of the firm as leverage is added. First, the addition of permanent debt in the amount
of D would provide a tax shield that has a value of τ
c
D, where for firm XYZ τ
c
=0.34,
or 34%. The second, and offsetting, factor is the present value of expected costs of future
financial distress, PV[E(CFFD)], which increases at an accelerating rate with leverage.
Management decides that the relationship of PV[E(CFFD)] to leverage can be
approximated with the following equation: PV[E(CFFD)]=αD
2
, where α=0.0005. Given
these specifications, find the value of debt, D*, that would maximize the value of firm
XYZ. What is the market value of the firm,
*
L
V
, if it has this amount of debt?
D*

*
L
V
a. 340 $1,015.6
b. 340 $957.8 *
c. 500 $945.0
d. 500 $909.8
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
24
___ 7. Firm XYZ is currently financed entirely with equity that has a total market value of $900 mn.
The firm’s management is considering engaging in a debt-for-equity swap to add leverage to
the firm’s capital structure. Management recognizes two factors that would affect the
value of the firm as leverage is added. First, the addition of permanent debt in the amount
of D would provide a tax shield that has a value of τ
c
D, where for firm XYZ τ
c
=0.34,
or 34%. The second, and offsetting, factor is the present value of expected costs of future
financial distress, PV[E(CFFD)], which increases at an accelerating rate with leverage.
Management decides that the relationship of PV[E(CFFD)] to leverage can be
approximated with the following equation: PV[E(CFFD)]=αD
2
, where α=0.001. Given
these specifications, find the value of debt, D*, that would maximize the value of firm
XYZ. What is the market value of the firm,
*
L
V
, if it has this amount of debt?

D*
*
L
V
a. 100 $948.0
b. 340 $957.8
c. 170 $957.8
d. 170 $928.9 *
___ 8. According to the ___________ hypothesis, short-term assets should be financed with short-term
capital and long-term assets with long-term capital.
a. maturity matching *
b. hedging
c. risk-return
d. capital asset
___ 9. The _________ hypothesis is stated as follows: Among long-term assets, the firm should finance
long-term tangible assets, such as PP&E, with long-term debt, while other long-term assets,
such as investments and intangibles, must be financed with equity.
a. tangible asset
b. debt-equity
c. collateral *
d. Fisher
___ 10. The current market value of the assets of levered firm ABC, Inc. is $100 million. The annual
standard deviation of returns on the assets is 30%. The firm’s capital structure consists of equity
and pure discount debt for which payment of $80 million is due in 5 years. The risk-free rate is
5%. Using the Black-Scholes Option Pricing Model to calculate the value of the firm’s debt.
a. $44
b. $55 *
c. $66
d. $77
(The BSOPM formula and cumulative normal distribution function values must be supplied.)

Essay Questions
1. Discuss (in words) and describe (with a graph) the Miller equilibrium regarding optimal capital
structure.
2. Describe the basic features of the IRS tax code as it applies to both corporations and individuals.
Ogden, Jen, and O’Connor: Advanced Corporate Finance Copyright © 2002 Prentice hall Inc. All rights reserved.
25