Test bank corporate finance 8e ros chap014

The right granted to a company employee which enables that employee to buy shares of stock in the company at a set price for a fixed period of time is called an: A.. The American call ha

Multiple Choice Questions

1 A contract that grants its owner the right to buy or sell a specified asset at an agreed-upon price on or before a given date is called a(n):

2 Exercising an option is the act of:

a buying the right to either buy or sell an asset at a specified price for a stated period of time

b purposely allowing an option to expire

C buying or selling the underlying asset via the option contract.

d purchasing a second option to exactly offset an option which you currently own

e purchasing shares of stock in the open market to offset an option position

SECTION: 14.1

TOPIC: EXERCISING THE OPTION

TYPE: DEFINITIONS

asset is called the option's:

4 The last day on which an option can be exercised is the _ date

7 A call option is the _ an asset at a fixed price during a stated period of time

10 The right granted to a company employee which enables that employee to buy shares of stock in the company at a set price for a fixed period of time is called a(n):

A employee stock option.

b company bonus option

c employee grant

d employee exercise option

e company benefits option

12 The investment timing decision is the:

a determination of when an option should be exercised

b decision of when to purchase an option on an underlying asset

c analysis of determining when an asset should be sold

d determination of when a project should be abandoned

E evaluation of the optimal time to begin a project.

SECTION: 14.6

13 Managerial options are:

a choices managers can make given today's circumstances

b various rights that a manager has today given the calls owned by the firm

c choices that are independent of all future events

D opportunities that managers can exploit if certain things happen in the future.

e various methods a manager can utilize to produce a specific product

16 A security that gives the holder the right to purchase shares of stock at a fixed price over a specified period of time is called a(n):

a convertible bond

B warrant.

c initial public offering

d seasoned equity offering

19 The number of shares of stock received for each bond that is converted is called the:

22 The value a convertible bond would have if it were to be immediately converted into common stock is called the:

23 Which one of the following statements correctly describes your situation as the holder of

an American call option?

a You are obligated to buy if the option is exercised

b You have a right to sell

c You have a right to buy but only on the expiration date

d You are obligated to sell if the option is exercised

E You have a right to buy at any time before the option expires.

SECTION: 14.1

TOPIC: AMERICAN OPTION

TYPE: CONCEPTS

24 Max opted to exercise his July option on June 11 and as a result received $4,600 in cash Max must have owned a (an):

25 Maria opted to exercise her December option at the end of October and paid $2,600 at thattime to acquire 100 shares of stock Maria probably owned an:

26 Jessica owns an option which gives her the right to purchase shares of TRU-LUV stock at

a price of $57.50 a share Currently, TRU-LUV is selling for $62.60 Jessica would like to realize her profits but is not permitted to exercise the option for another three weeks Jessica must own a(n):

27 What is the key difference between an American call option and a European call option?

a The American call has a fixed strike price while the European strike price varies each month

b An American call is a right to buy while a European call is an obligation to buy

c An American call has an expiration date while the European call does not

d An American call is written on 100 shares of the underlying security while the European call covers 1,000 shares

E An American call an be exercised at any time up to the expiration date while the European

call can only be exercised on the expiration date

SECTION: 14.1

TOPIC: EUROPEAN OPTION

TYPE: CONCEPTS

28 If a call has a positive intrinsic value the call is said to be:

29 A 25 put option on West Ridge stock expires today The current price of West Ridge stock

is $27 The put is:

30 The maximum value of a call option is equal to:

a the strike price minus the initial cost of the option

b the exercise price plus the price of the underlying stock

c the strike price

D the price of the underlying stock.

e the purchase price

SECTION: 14.2

TOPIC: CALL UPPER BOUND

TYPE: CONCEPTS

31 The lower bound on a call's value is either the:

a strike price or zero, whichever is greater

B stock price minus the exercise price or zero, whichever is greater.

c strike price or the stock price, whichever is lower

d strike price or zero, whichever is lower

e stock price minus the exercise price or zero, whichever is lower

SECTION: 14.2

TOPIC: CALL LOWER BOUND

TYPE: CONCEPTS

32 The intrinsic value of a call is:

a the upper bound value

B the lower bound value.

c another name for the market price

d equal to zero if the call is in the money

e greater than zero if the call is out of the money

SECTION: 14.2

TOPIC: CALL INTRINSIC VALUE

TYPE: CONCEPTS

33 The intrinsic value of a put is equal to the:

a lesser of the strike price or the stock price

b lesser of the stock price minus the exercise price or zero

c lesser of the stock price or zero

D greater of the strike price minus the stock price or zero.

e greater of the stock price minus the exercise price or zero

SECTION: 14.2

TOPIC: PUT INTRINSIC VALUE

TYPE: CONCEPTS

34 Which one of the following statements is correct?

A The value of a call increases as the price of the underlying stock increases.

b The value of a call increases as the exercise price increases

c The value of a put increases as the price of the underlying stock increases

d The value of a put decreases as the exercise price increases

e The intrinsic value of a put must be zero on the expiration date

II underlying stock price

III risk-free rate of return

IV price volatility of the underlying stock

a I and III only

b II, III, and IV only

c I, III, and IV only

d I, II, and III only

E I, II, III, and IV

SECTION: 14.2

TOPIC: FACTORS AFFECTING OPTION VALUES

TYPE: CONCEPTS

36 Which of the following factors affect the value of a call option?

I exercise price

II time to expiration

III risk-free rate

IV price of underlying asset

a I and II only

b III and IV only

c I, II, and IV only

d I, II, and III only

E I, II, III, and IV

SECTION: 14.2

TOPIC: FACTORS AFFECTING OPTION VALUES

TYPE: CONCEPTS

37 Assume that you own both a July 25 put and a July 25 call on Delta stock Which one of the following statements is correct concerning these option positions? Ignore taxes and transaction costs

a A price decrease in Delta stock will increase the call value and decrease the put value

b A July 30 call is worth more than your July 25 call

c The time premium on your July 25 put is greater than the time premium on an August 25 put

D A price increase in Delta stock from $26 to $28 will increase the value of your call.

e An increase of $1 in your put value must decrease the value of your call by $1

a also finish in the money

b finish at the money

C finish out of the money.

d either finish at the money or in the money

e either finish at the money or out of the money

SECTION: 14.2

TOPIC: OPTION VALUES

TYPE: CONCEPTS

39 Which one of the following statements regarding employee stock options (ESOs) is correct?

a ESOs grant an employee the right to buy a fixed number of shares of company stock at the market price

b If employees want to exercise their ESOs, they must do so prior to the ESOs becoming vested

C Employees may lose their ESOs if they leave their job.

d ESOs are sometimes used as a motivator to encourage employees to focus on their personalgoals

e Employees can sell their ESOs if they do not want to personally exercise them

SECTION: 14.4

TOPIC: EMPLOYEE STOCK OPTION

TYPE: CONCEPTS

40 Employee stock options are designed:

a to be backdated to any desired date over the past year

b to provide a large initial tax deduction to the employer

C to influence the actions and priorities of employees.

d as a means of distributing excess cash to the employees

e to be traded on the open market without incurring transaction costs

SECTION: 14.4

TOPIC: EMPLOYEE STOCK OPTION

TYPE: CONCEPTS

41 Employee stock options:

a usually have a positive intrinsic value when they are issued

B are frequently granted on a regular basis such as quarterly or annually.

c are generally in the money when they are issued

d are frequently repriced when they are in the money

e are considered to be "underwater" when they have a positive intrinsic value

SECTION: 14.4

TOPIC: EMPLOYEE STOCK OPTON

TYPE: CONCEPTS

42 How many business days after the grant date do firms have under the Sarbanes-Oxley Act

of 2002 to report the option grants?

43 Trenton Industrial Fans has a pure discount loan with a face value of $250,000 due in one year The assets of the firm are currently worth $315,000 The shareholders in this firm basically own a _ option on the assets of the firm with a strike price of:

45 The option to wait:

I may be of minimal value if a project is dependent upon rapidly changing technology

II is partially dependent upon the discount rate applied to the project being evaluated.III is defined as temporarily shutting down a project for a period of time

IV has a value equal to the NPV of a project if it is started at a later date minus the NPV if the project is started today

a I and III only

b II and IV only

c I and II only

d II, III, and IV only

E I, II, and IV only

II option to expand

III option to wait

IV option to contract

a I and III only

b II, III, and IV only

c I, II, and III only

d I, III, and IV only

E I, II, III, and IV

SECTION: 14.6

TOPIC: MANAGERIAL OPTIONS

TYPE: CONCEPTS

47 Which one of the following is an example of a strategic option for a restaurant?

A opening a new restaurant with a different look and an entirely different menu to see if that

type of restaurant appeals to the public

b deciding to close one hour earlier during the winter months due to weak demand

c stopping a 3-year project after six months due to a lack of consumer demand

d deciding to open only two new retail outlets next year instead of the five that were

your surprise, children do not like the toy so sales have been abysmal You should consider the option to:

50 Which of the following are managerial options once a project is commenced?

I modifying the production process

II re-pricing the product

III changing the advertising

IV changing the packaging

a I and II only

b III and IV only

c I, II, and III only

d II, III, and IV only

E I, II, III, and IV

SECTION: 14.6

TOPIC: MANAGERIAL OPTIONS

TYPE: CONCEPTS

51 Warrants are generally:

a issued in connection with publicly traded bonds

b traded directly between individuals rather than on an exchange

c structured similar to long-term put options

I Warrants are similar to put options.

II Warrants are similar to call options

III When a warrant is exercised, the issuer is not involved in the transaction

IV When a warrant is exercised, the issuer must issue new shares of stock

53 When warrants are exercised, the:

A earnings per share decrease.

b earnings per share remain constant

c total equity in a firm remains constant

d total equity in a firm decreases

e number of bonds outstanding increases

SECTION: 14.7

TOPIC: WARRANTS

TYPE: CONCEPTS

54 Which of the following statements are correct concerning convertible bonds?

I New shares of stock are issued when a convertible bond is converted

II A convertible bond is similar to a bond with a put option

III A convertible bond should never be worth less than its straight bond value

IV A convertible bond can be described as having upside potential with downside protection

a I and III only

b II and IV only

c I, II, and III only

D I, III, and IV only

e II, III, and IV only

SECTION: 14.7

TOPIC: CONVERTIBLE BONDS

TYPE: CONCEPTS

A conversion ratio multiplied by the stock price.

b conversion ratio multiplied by the conversion price

c face value of the bond plus the conversion premium

d face value of the bond multiplied by (1 + Conversion premium)

e stock price multiplied by (1 + Conversion price)

SECTION: 14.7

TOPIC: CONVERTIBLE BONDS

TYPE: CONCEPTS

56 The maximum value of a convertible bond is theoretically:

a equal to the conversion value minus the straight bond value

b equal to the face value of the bond multiplied by (1 + Conversion price)

c limited to the maximum straight bond value

d limited by the face value of the bond

58 What is the value of ten November 25 put contracts?

59 What is the intrinsic value of the August 35 put?

60 You purchased eight WAN call option contracts with a strike price of $27.50 when the option was quoted at $0.60 The option expires today when the value of WAN stock is

$28.20 Ignoring trading costs and taxes, what is your net profit or loss on your investment?

61 You sold one call option contract with a strike price of $42.50 when the option was quoted

at $1.10 The option expires today when the value of the underlying stock is $38.10 Ignoring trading costs and taxes, what is your net profit or loss on your investment?

Total profit = $1.10 100 1 = $110; The option finished out of the money

AACSB TOPIC: ANALYTIC

SECTION: 14.1

TOPIC: CALL PAYOFF

TYPE: PROBLEMS

62 You sold five 45 call option contracts at a quoted price of $1.25 What is your net profit orloss on this investment if the price of the underlying asset is $47.60 on the option expiration date?

63 You wrote three call option contracts with a strike price of $55 and an option premium of

$.70 What is your net gain or loss on this investment if the price of the underlying stock is

$53.30 on the option expiration date?

64 The market price of Simpson Structures stock has been relatively volatile and you think this volatility will continue for a couple more months Thus, you decide to purchase a two-month European call option on this stock with a strike price of $32.50 and an option price of

$1.80 You also purchase a two-month European put option on the stock with a strike price of

$32.50 and an option price of $.60 What will your net profit or loss on these option positions

be if the stock price is $34.20 on the day the options expire? Ignore trading costs and taxes

a one-month European $10 call on this stock The call premium is $.35 and the put premium

is $1.60 What will your net profit or loss be on these option positions if the stock price is $7

on the day the options expire? Ignore trading costs and taxes

66 Four months ago, Master Tech stock was selling for $47.30 a share At that time, you purchased three put options on the stock with a strike price of $45 and an option price of $.20.The option expires today when the value of the stock is $39.10 What is your net profit or loss

on this investment? Ignore trading costs and taxes

Net profit = $1.70 100 5= $850; The option finished out of the money

AACSB TOPIC: ANALYTIC

SECTION: 14.1

TOPIC: PUT PAYOFF

TYPE: PROBLEMS