Question 1

Stockholders have preemptive rights because:

Accepted Answer

Preemptive rights are typically written into a company's charter, articles, or bylaws. They are not required by law and do not automatically come with every stock purchase. Preemptive rights allow current shareholders to maintain their ownership percentage in the company by having the first option to purchase new shares before they are offered to the general public. This helps to prevent disproportional ownership.

Question 2

Common stock holders:

Accepted Answer

Common stockholders are last in line to receive income, especially in the event of liquidation, after creditors and preferred stockholders.

Question 3

A preferred stock is an example of _____.

Accepted Answer

A preferred stock is an example of a perpetuity, as it pays a fixed dividend indefinitely, assuming the company continues to exist.

Question 4

Which statement is most consistent with the efficient markets hypothesis?

Accepted Answer

The efficient markets hypothesis suggests that all available information is reflected in security prices almost immediately, so investors cannot consistently earn a positive return on investment over time. This means that choice A is incorrect. Choice C is also incorrect because efficient markets hypothesis suggests that market movements are random and cannot be predicted. Therefore, chartists do not have an advantage.

Question 5

If a call option has zero intrinsic value then:

Accepted Answer

The answer of If a call option has zero intrinsic...

Question 6

Which class of investors do not have claims on the income and assets of the firm prior to preferred shareholders?

Accepted Answer

Common shareholders have residual claims on the income and assets of the firm, meaning they are paid after all other claims, including those of preferred shareholders, bondholders, creditors, and lenders, have been satisfied.

Question 7

The return on any stock investment is the rate that makes the present value of estimated future cash flows equal to the price paid for the stock today.

Accepted Answer

This statement is true. The return on a stock investment is calculated based on the present value of estimated future cash flows and the price paid for the stock today. It is the rate of return that makes these two values equal.

Question 8

If a call option with a strike price of $65.00 is in the money then:

Accepted Answer

A call option is in the money when the stock price is above the strike price. If the call option with a strike price of $65.00 is in the money, the stock price is above $65.00. Therefore, a put option with the same strike price would have a negative intrinsic value, as the stock price is above the strike price.

Question 9

In general, dividends are paid:

Accepted Answer

Dividends are typically paid quarterly, which means four times a year. This is the most common frequency for dividend payments. While companies may choose to pay dividends less frequently (semi-annually or annually), it is rare for them to pay dividends more frequently than quarterly (such as monthly).

Question 10

Stockholders sell their investment:

Accepted Answer

Stockholders sell their investment at the prevailing market price, which is determined by supply and demand in the marketplace. This price fluctuates based on various economic factors such as company performance and overall market conditions. The other options are not accurate as they do not reflect how stockholders typically sell their investments.

Question 11

There is a strong similarity between bonds and stocks because of the nature of the cash flows. Both bonds and stocks offer assurance of regular payments through either dividend or interest, the final sale of stock is similar to the final return of a bond's principal.

Accepted Answer

Bonds typically offer fixed interest payments and return of principal at maturity, while stocks represent ownership in a company and dividends (if paid) can vary. The value of stocks can fluctuate significantly, and there is no guarantee of dividends or return of principal as with bonds.

Question 12

The price of a stock today can be determined by:

Accepted Answer

The price of a stock today can be determined by its dividend plus the sum of the discounted future cash flows generated by the stock (i.e., its expected capital gains). This is represented by the formula: P_o= D₁+(P₁-P_o). Therefore, choice C is the best option. The other choices are either incomplete or do not reflect the full picture of how stock prices are determined.

Question 13

In the running of a company, stockholders have:

Accepted Answer

The answer of In the running of a company, stockholders...

Question 14

The nature of cash flow from common stock ownership comes from:

Accepted Answer

Cash flow from common stock ownership comes from receive dividends (if the company pays them) and any gains from the sale of the stock. So, both dividends and sale of the stock are the sources of cash flow from common stock ownership.

Question 15

A stock's total return is realized from two principal sources, its dividend yield and any gain from the increase in its selling price over the original purchase price of the stock.

Accepted Answer

This statement is true. A stock's total return is made up of the dividend yield received from holding the stock and any capital gain obtained from selling it at a higher price than its original purchase price.

Question 16

Suppose the current dividend for a stock is $0.42 and is expected to grow 20% annually for the next three years and then 6% annually for the foreseeable future. What will the dividend be four years from today?

Accepted Answer

The dividend grows 20% annually for the first three years, so we calculate the growth as follows: Year 1: $0.42 * 1.20 = $0.504 Year 2: $0.504 * 1.20 = $0.6048 Year 3: $0.6048 * 1.20 = $0.72576 Then, it grows 6% for the next year (fourth year), so: Year 4: $0.72576 * 1.06 = $0.7693056, which rounds to $0.77.

Question 17

A stock has a current dividend of $0.32 with a growth rate of 8% annually. Assuming a 10% annual discount rate, what should the price of the stock be one year from today?

Accepted Answer

The price of the stock one year from today can be calculated using the Gordon Growth Model (Dividend Discount Model for a perpetuity with growth), which is P = D / (r - g), where P is the price, D is the dividend one year from now, r is the discount rate, and g is the growth rate. The dividend one year from now is $0.32 * (1 + 0.08) = $0.3456. Plugging into the formula gives P = $0.3456 / (0.10 - 0.08) = $17.28. However, since the question asks for the price one year from today, and we've calculated the price based on the dividend one year from now, the correct answer reflects the value without needing further adjustments, which seems to have been a misunderstanding in the explanation process. The correct approach to find the price one year from today actually involves understanding that the calculated price using the Gordon Growth Model inherently provides the present value (today's price) of all future dividends, including the growth. Given the options and the calculation mistake acknowledged, the correct interpretation aligns with the dividend growth model's application but the explanation provided does not accurately reflect the correct calculation process for the scenario described.

Question 18

The basis for stock value is the:

Accepted Answer

The present value of future cash inflows is the most accurate representation of the value of a stock as it takes into account the time value of money and the expected returns from the company's operations. Forecasted dividends may be a factor in determining the present value of future cash flows, but they alone do not determine the value of a stock. The future value of the stock and annuity of constant future returns are not accurate measures of a stock's value as they do not account for the effects of inflation and changes in the market.

Question 19

The dividend yield is the annual dividend divided by the current stock's price.

Accepted Answer

This is the correct definition of dividend yield.

Question 20

If one expects the annual dividend to be $0.95 five years from today when the current dividend is $0.62, the annual dividend growth rate must be:

Accepted Answer

The annual dividend growth rate can be calculated using the formula:Dividend Growth Rate = (Future Dividend / Current Dividend)^(1/n) - 1where:Future Dividend = $0.95Current Dividend = $0.62n = 5 yearsPlugging these values into the formula, we get:Dividend Growth Rate = ($0.95 / $0.62)^(1/5) - 1= 1.09 - 1= 0.09 or 9%Therefore, the annual dividend growth rate must be 9%.

Quiz 8: The Valuation and Characteristics of Stock