Deck 8: Common Stock: Characteristics, Valuation, and Issuance

Question 1

A common stock's book value is calculated _____.

A) as a multiple of the stock's price / earnings ratio
B) on the basis of income statement ratios
C) on the basis of balance sheet figures
D) on the value of income statement figures

Answer 1

C

Question 2

Stockholders' equity includes all of the following EXCEPT _____.

A) common stock
B) treasury stock
C) contributed capital in excess of par
D) preferred stock

Answer 2

B

Question 3

The market value of common stock is primarily based on _____.

A) the firm's future earnings
B) book value
C) total assets
D) retained earnings

Answer 3

A

Question 4

In the constant growth dividend valuation model, the required rate of return on a common stock can be shown to be equal to the sum of the dividend yield plus ____.

A) yield-to-maturity
B) cost of capital
C) present value yield
D) price appreciation yield

Question 5

AVIX has 6.8 million shares outstanding and the firm's charter provides for a majority voting procedure. The company has seven directors up for reelection. What is the minimum number of shares needed to ensure the election of one director?

A) 850,001
B) 5,950,001
C) 3,400,001
D) None of these are correct

Question 6

In the constant growth dividend valuation model, the required rate of return must be ____ the dividend growth rate in order for the formula price to be meaningful.

A) less than
B) equal to
C) greater than
D) proportional to

Question 7

When a stock is split 2 for 1, then the ____ figure on the firm's balance sheet is cut in half.

A) value of the common stock
B) par value
C) capital surplus
D) retained earnings

Question 8

Management usually opposes cumulative voting because this type of voting _____.

A) is over twice as likely as majority voting to result in a proxy fight
B) is more complicated than majority voting and takes longer to process
C) often leaves the stockholders who hold minority viewpoints with no representation on the board of directors
D) makes it easier for stockholders with minority viewpoints to elect sympathetic board members

Question 9

In a reverse stock split, ____.

A) the number of shares are decreased
B) the market value is decreased
C) retained earnings decrease
D) par value decreases

Question 10

Which of the following is NOT an advantage of common stock financing?

A) no fixed dividend obligation
B) lowers the firm's weighted cost of capital
C) a greater degree of flexibility for the firm in financial planning
D) relatively high flotation costs

Question 11

Stockholders' equity includes _____.

A) both preferred stock and common stock
B) total claims
C) additional paid-in capital plus capital surplus
D) total liabilities and total surplus

Question 12

Many preferred stocks are treated as ____ in determining their values.

A) fixed assets
B) perpetuities
C) convertible securities
D) constant growth securities

Question 13

One of the assumptions of the constant growth dividend valuation model is that the _____.

A) investor's required rate of return is equal to the expected dividend yield
B) required rate of return is greater than the dividend growth rate
C) required rate of return increases at a constant rate
D) dividend rate (in dollars) will remain constant

Question 14

Common stockholders have a number of general rights, including all of the following EXCEPT ____:

A) voting rights
B) management rights
C) asset rights
D) dividend rights

Question 15

The most important factor to be considered in the valuation of a closely held firm is _____.

A) earnings growth
B) book value of the firm
C) earnings capacity
D) the general economic outlook

Question 16

The book value per share of common stock is calculated by dividing ____ by the number of shares outstanding.

A) market value of common stock
B) total assets
C) total stockholders' equity plus preferred stock
D) total common stockholders' equity

Question 17

Each of the following is a reason why the valuation of common stock is considerably more complicated than that of bonds or preferred stocks EXCEPT _____.

A) the returns can take two forms: annual cash payments and price appreciation
B) the cash flows from common stocks are generally more uncertain than the cash flows from other types of securities
C) the returns from common stocks are generally larger and more certain than the returns from bonds and preferred stocks
D) None of these are correct

Question 18

In the valuation of common stock, the simple annuity and perpetuity formulas used in the valuation of bonds and preferred stock are not generally applicable because _____.

A) investors buy common stock for much different reasons than they buy bonds or preferred stock
B) returns accruing to common stock should never be capitalized (discounted) in order to determine a price
C) unlike bonds and preferred stock, common stock is a short-term investment
D) unlike payments on most bonds and preferred stock, common stock dividends are normally expected to grow over time

Question 19

Which of the four common stockholder rights exists in only a minority of firms?

A) dividend rights
B) asset rights
C) preemptive rights
D) voting rights

Question 20

Which of the following is NOT a characteristic of common stock?

A) It has no maturity date.
B) It is considered a permanent form of long-term financing.
C) It has claims on assets prior to those of preferred stock.
D) It is a residual form of ownership.

Question 21

Some corporations issue dual classes of stock with unequal voting power. One justification offered by supporters of the dual class system is that it _____.

A) favors long-term business health over short-term profits
B) is more democratic than most single class systems
C) is more positively correlated with business success than are other systems
D) induces a greater number of investors to purchase stock in the firm

Question 22

Proxy fights typically occur when _____.

A) stockholders receive more than one proxy statement
B) a firm is performing poorly
C) a firm is in the middle of a takeover attempt
D) All of these are correct

Question 23

The zero growth dividend valuation model is used when a firm's future dividends are expected to remain constant _______.

A) so the value of the firm should also remain constant
B) so the required rate of return should also remain constant
C) and the firm cannot be valued
D) forever

Question 24

The returns investors receive from holding common stocks may be in two forms. They are ____.

A) cash dividend payments and capital gains
B) future earnings and treasury stock
C) stock splits and stock dividends
D) cash dividends and stock dividends

Question 25

All of the following are advantages of private security placements (over a public offering) EXCEPT _____.

A) reduced flotation costs
B) greater flexibility
C) lower interest rates
D) fewer delays

Question 26

A firm that wishes to raise additional equity capital by selling a portion of the existing owners' stock while maintaining control of the firm should consider a ____.

A) stock split
B) stock dividend
C) share repurchase
D) separate class of nonvoting stock

Question 27

A firm may sell its common stock directly to its existing stockholders through a _____.

A) private placement
B) cash offering
C) rights offering
D) direct placement

Question 28

When evaluating a firm based on price/earnings multiples, the evaluator must determine the price/earnings multiple for _____.

A) the general market
B) the S&P 500
C) firms in the same industry
D) small capitalization firms

Question 29

The difference between the selling price to the public of a new issue and the net the issuing firm actually receives is known as the _____.

A) negotiating spread
B) underwriting spread
C) bid spread
D) SEC cost

Question 30

Dillinger Inc. is planning to raise additional capital for expansion by selling 500,000 common shares at $16 each. The existing stockholders' equity section of its balance sheet is shown below. What will the retained earnings figure be immediately after the sale of the new equity? $$\begin{array} { l l } \text { Common stock; } \$ 1 \text { par value; authorized, 3,000,000 shares; issued and } \\\text { outstanding, 3,000,000 shares } & \$ 3,000,000 \\\text { Additional paid-in capital } & \$ 6,500,000 \\\text { Retained earnings } & \$ 4,752,000 \\\text { Total stockholders' equity } & \$ 14,252,000\end{array}$$

A) $12,252,000
B) $14,000,000
C) $4,752,000
D) $3,500,000

Question 31

The rights of stockholders to share equally on a per-share basis in any distributions of corporate earnings is known as ____ rights.

A) preemptive
B) voting
C) asset
D) dividend

Question 32

A ____ is a group of underwriters who agree to underwrite a new issue in order to spread the risk.

A) purchasing syndicate
B) cartel
C) bidding group
D) financial institution

Question 33

In the constant growth dividend valuation model, the required rate of return on a common stock is equal to the sum of the ____.

A) capital gains yield and cost of capital
B) present value yield and dividend yield
C) cost of capital and dividend yield
D) capital gains yield and dividend yield

Question 34

An arrangement whereby an investment banker agrees to purchase an entire new issue of securities is called ____.

A) competitive bidding
B) syndication
C) a negotiated bid
D) underwriting

Question 35

The constant growth dividend valuation model does not hold when _____.

A) k_e is greater than g
B) dividends are growing faster than 4 percent
C) g is greater than k_e
D) the current dividend is known

Question 36

A firm may use a stock repurchase ____.

A) as part of a financial restructuring
B) to dispose of excess cash
C) to reduce takeover risk
D) All of these are correct

Question 37

____ result in what is known as treasury stock.

A) Stock dividends
B) Stock repurchases
C) Stock splits
D) Reverse stock splits

Question 38

From an accounting standpoint, stock dividends involve a transfer from the _____.

A) common stock account
B) cash account
C) retained earnings account
D) capital surplus account

Question 39

In the constant growth dividend valuation model, it is assumed that the ____.

A) dividend growth rate exceeds the required rate of return
B) firm's future dividend payments are expected to grow at a constant rate forever
C) dividend cannot be forecast for any future time
D) firm is experiencing a period of poor performance, after which normal growth is expected

Question 40

Which one of the following is NOT a reason a firm may decide to repurchase its own stock?

A) future corporate needs
B) financial restructuring
C) investment
D) disposition of excess warrants

Question 41

Assume Zero-Sum Enterprise pays an annual dividend of $1.40 per share and that neither earnings nor dividends are expected to grow in the future. What is the value of Zero-Sum's stock to an investor who requires a 14 percent rate of return?

A) $14
B) $10
C) $20
D) $0

Question 42

The current price of Zebar is $32.00 and the current dividend is $0.60. What is an investor's required rate of return on Zebar if dividends are expected to grow perpetually at a compound annual rate of 8 percent?

A) 9.88%
B) 11.38%
C) 18.75%
D) 10.03%

Question 43

What is the current value of the common stock of Clump Dump Kitty Litter, Ltd., if you know the current dividend yield is 6.14%, the PE is 16, and the annual dividend is $1.35?

A) $21.60
B) $21.99
C) $8.29
D) $98.24

Question 44

Which of the following are reasons a large multinational corporation might sell equity in international markets rather than selling stock only in the country in which they are domiciled?

A) Global equity offerings resulting in higher price per share
B) The existence of a 12-hour per day trading schedule
C) Higher positive returns around the time of the announcement to sell in global markets
D) Private placements not being an option

Question 45

If Night Owl Lamps pays an annual dividend of $1.54, has a PE of 13, and its last closing price was 40, then its dividend yield must be _____.

A) 11.85%
B) 3.85%
C) 15.40%
D) 3.25%

Question 46

In addition to direct costs, there are other costs associated with new security offerings. These other costs include all of the following EXCEPT _____.

A) incentives such as the "Green Shoe" option
B) overpricing
C) stock price declines
D) management time

Question 47

Over the past 7 years the dividends of Sunshine Mining have grown from $0.24 to the current level of $0.53. What is the approximate annual compound growth rate of Sunshine's dividends?

A) 20.8%
B) 12.0%
C) 9.5%
D) 10.0%

Question 48

Assume that the dividend ($3.25) on Central Power Company's common stock issue is paid annually at the end of the year. This dividend is not expected to increase for the foreseeable future. Determine the value of this stock to an investor who requires a 12 percent rate of return.

A) $3.25
B) $39
C) $12
D) $27.08

Question 49

An investment banker is generally thought to be qualified to advise a corporation on a variety of matters, including all the following EXCEPT _____.

A) long-range financial planning
B) the marketing of securities
C) the timing of securities
D) the firm's new product marketing decisions

Question 50

Common stock dividends normally are paid _____.

A) monthly
B) quarterly
C) semiannually
D) annually

Question 51

In marketing a new security issue, the investment banker assumes the risk of not being able to sell the security at a favorable price in each of the following cases EXCEPT _____.

A) a best efforts offering
B) a negotiated underwriting
C) a competitively bid underwriting
D) All of these cases have the assumption of risk

Question 52

Fast Wheels Inc. expects to pay an annual dividend of $0.72 next year. Dividends have been growing at a compound annual rate of 6 percent and are expected to continue growing at that rate. What is the value of a share of stock of Fast Wheels to an investor who requires a 14 percent rate of return?

A) $9.00
B) $5.14
C) $9.54
D) $8.16

Question 53

If the common stock of Comdisco pays an annual dividend of $0.28, has a PE ratio of 11, and closed at 25, what are the current earnings per share?

A) $3.08
B) $2.27
C) $7.00
D) $1.12

Question 54

The P/E ratio indicates _____.

A) how much investors are willing to pay for $1 of current earnings
B) the current yield
C) the current price
D) how risky the stock is

Question 55

What is the value of a share of stock of HOV Inc. to an investor who requires a 12 percent rate of return if HOV's current dividend is $1.20? Assume earnings and dividends are expected to grow at a compound annual rate of 7 percent.

A) $24.00
B) $18.34
C) $25.68
D) $19.62

Question 56

Bellbottom Gongs, Inc. pays a quarterly dividend of $0.70, has a PE ratio of 14, and closed yesterday at $48.25. What is the dividend yield?

A) 5.45%
B) 1.45%
C) 5.8%
D) 7.25%

Question 57

Zero-Sum Enterprise expects to pay an annual dividend of $0.48 next year. Dividends and earnings have been growing at a compound annual rate of 8 percent and are expected to continue growing at that rate. What is an investor's required rate of return on Zero-Sum if the current price is $12?

A) 12.3%
B) 12.0%
C) 10.0%
D) 10.3%

Question 58

Direct issuance costs are _____.

A) higher for common stock than for preferred stock issues
B) dependent on the quality of the issue
C) dependent on the size of the issue
D) All of these are correct

Question 59

In stock quotations, the last column, showing the net change, indicates the net change in _____.

A) a share's price during the day
B) the dividend yield
C) the closing price from the previous day's close
D) a share's high price during the day

Question 60

A procedure that allows a firm to file a master registration statement with the SEC and then sell an offering of common stock in small increments is known as ____.

A) a Green Shoe option
B) an IPO
C) rule 215
D) a shelf registration

Question 61

What is the current value of a share of MoreGro common stock that does not pay a current dividend? Earnings are growing at a 20 percent per year rate for the next 10 years. Assume the investor has a required rate of return of 15 percent and expects to sell the security in 5 years. Current earnings are $1.50 per share.

A) $56.87
B) $62.21
C) $25.00
D) There is insufficient information to solve this problem.

Question 62

During the past 8 years, Beef Wellington Cattle Company's common stock dividends have grown from $2.00 to $3.19. Estimate the compound annual dividend growth rate over the 8-year period.

A) 59.5%
B) 6%
C) 12%
D) 19%

Question 63

What is the current value of a share of ABC common stock if its current dividend is $1.50 and dividends are expected to grow at the annual compound growth rate of 20 percent into the foreseeable future? Assume the investor has a required rate of return of 15 percent and expects to sell the security in 5 years.

A) $56.87
B) $30.00
C) $25.00
D) The constant growth rate model cannot be used because the growth rate is greater than the required rate of return.

Question 64

Many regulated companies are required by their regulatory commissions to sell new security issues via _____.

A) negotiated underwriting
B) competitive bidding
C) purchasing syndicates
D) private placement

Question 65

Moonshine Company, a producer of fine liqueurs, has earnings and common stock dividends have been growing at an annual rate of 4 percent over the past several years. The firm currently (t = 0) pays an annual dividend of $4.00. Assuming that Moonshine's common stock dividends continue growing at the past rate for the foreseeable future, determine the value of the company's common stock to an investor who requires a 13 percent rate of return on these securities.

A) $44.44
B) $36.81
C) $46.22
D) $48.62

Question 66

The stock of Melody Music City is selling for $37.50 and pays a current annual dividend of $1.10. What is the implied growth rate of dividends for this firm (assume dividends are expected to grow at a constant rate) if an investor's required rate of return is 14 percent?

A) 11.07%
B) 14.0%
C) 11.4%
D) 10.75%

Question 67

Helix common stock currently sells for $30, and its current dividend is $1.50. If the required rate of return on Helix stock is 15%, what is the implied growth rate of its earnings and dividends?

A) 13.5%
B) 9.5%
C) 10.0%
D) 30.0%

Question 68

Lawton Company common stock currently sells for $38 and pays (year 0) a dividend of $2. Determine the implied growth rate for Lawton assuming that an investor's required rate of return is 12% and that the stock can be evaluated using a constant growth valuation model.

A) 6.74%
B) 17.26%
C) 6.40%
D) 3.80%

Question 69

The common stock of Kute & Kuddly Kids Clothes, Inc., currently sells for $88.50, and its current (D₀) dividend is $1.10. Determine the implied growth rate for Kute assuming that an investor's required rate of return is 14% and that earnings and dividends are expected to grow at a constant rate.

A) 13.9%
B) 12.3%
C) 13.8%
D) 12.6%

Question 70

Over the past 5 years, Dippity Doo-Dah Party Dips' common stock earnings per share have grown from $0.62 to $0.91. If an investor in Dippity's stock is assumed to have a required rate of return of 14%, what is the current value of Dippity if its current dividend is 0.12? Assume EPS will continue to grow at a constant rate.

A) $2.16
B) $1.62
C) $4.94
D) $2.00

Question 71

CPU Company currently (t = 0) pays a dividend of $2.50 per share on its common stock. Dividends are expected to increase at the rate of $0.25 per share for the next several years. Determine the current value of CPU's common stock to an investor who expects to be able to sell the stock for $35 per share after 3 years, given that the investor requires a 14 percent rate of return on this security.

A) $24.00
B) $30.54
C) $19.64
D) $68.75

Question 72

What is the rate of return to an investor in the stock of Bajo Inc. if the current dividend of $0.80 is not expected to change in the foreseeable future? The current price of Bajo is $13.25.

A) 6.04%
B) 8.0%
C) 24.15%
D) 11.06%

Question 73

Phillips Industries common stock currently sells for $50 and is expected to pay a dividend of $3.00 next year. Determine the implied growth rate for Phillips Industries dividends assuming that an investor's required rate of return on this stock is 14%.

A) 6%
B) 8%
C) 14%
D) 20%

Question 74

During the past 8 years, UTX Company common stock dividends have grown from $2.70 to $5.00 per share (currently). Determine the value of UTX common stock to an investor who requires a 16% rate of return, assuming that dividends continue growing for the foreseeable future at the same rate as over the past 8 years.

A) $62.50
B) $31.25
C) $67.50
D) $46.96

Question 75

What is the current value of Frocks & Socks Clothiers, Inc., to an investor who has a required rate of return of 12 percent? The current dividend is $1.00, and the dividends are expected to grow 8 percent per year for 3 years. At the end of 3 years the investor expects to sell the security for $76.

A) $79.51
B) $56.90
C) $51.13
D) $76.00

Question 76

Helluva stock currently pays a dividend of $1.20 per share. Dividends are expected to increase at the rate of $0.10 per share for the next eight years. Determine the current value of Helluva common stock to an investor who expects to be able to sell the stock for $28 after 5 years. Assume that the investor requires a 12 percent rate of return on the security.

A) $66.00
B) $28.00
C) $21.20
D) $15.88

Question 77

High Brow Cow Farms, producers of the finest dairy products, has common stock that sells for $54. Dividends are expected to continue to grow at a rate of 8% annually. If investors in High Brow require a 13% rate of return, what is the current dividend?

A) $2.70
B) $2.50
C) $4.00
D) $3.25

Question 78

The earnings and dividends of Nebula Computer Co. are expected to grow at an annual rate of 15 percent over the next 4 years and then slow to a constant growth rate of 8 percent per year. Nebula currently pays a dividend of $0.50 per share. What is the value of Nebula stock to an investor who requires a 14 percent rate of return?

A) $9.31
B) $15.73
C) $11.35
D) $2.04

Question 79

Keeping Pace Enterprises, makers of track and field equipment, has common stock that sells for $29, and its dividends are expected to grow at a rate of 9 percent annually. If investors in Pace require a return of 14%, what is the expected dividend next year?

A) $1.33
B) $2.40
C) $1.45
D) $1.60

Question 80

What is the current value of a share of McDonalds if its current dividend is $1.50 and dividends are expected to grow at an annual rate of 20 percent for the next 5 years? Assume the investor has a required rate of return of 15 percent and expects to sell the security in 5 years for $72.

A) $44.31
B) $35.78
C) $39.63
D) $72.00