Question 1

American depository receipts (ADRs) are foreign stocks listed on stock exchanges located outside the country where the firms are headquartered.

Accepted Answer

ADRs are a way for investors to buy shares of foreign companies on American stock exchanges; the stocks themselves are not listed on exchanges outside their home country.

Question 2

Changes in stock prices occur because investors change the rates of return they require to invest in stocks and/or the expectations about the cash flows associated with stocks change.

Accepted Answer

Changes in stock prices can occur due to various factors, but ultimately they are influenced by changes in investors' required rates of return and expectations about cash flows. For example, if investors become more optimistic about a company's future earnings potential, they may be willing to accept a lower rate of return to invest in its stock, which could drive up the stock price. Conversely, if investors become more risk-averse or if the company's expected cash flows decrease, they may demand a higher rate of return, which could drive down the stock price.

Question 3

A proxy fight is an attempt by a group to overthrow the current management team and take control of a business by soliciting stockholders' proxy votes.

Accepted Answer

A proxy fight is indeed an attempt to gain control of a business by soliciting stockholders' proxy votes in order to overthrow the current management team.

Question 4

If we view price-earnings (P/E) ratios as measures of payback, all else equal, higher earnings multipliers are better.

Accepted Answer

Higher P/E ratios indicate that investors are paying more for each unit of income, suggesting a longer payback period, not necessarily a better investment. Lower P/E ratios can indicate a quicker payback on investment, assuming earnings remain constant.

Question 5

A call provision included with a sinking fund effectively adds a maturity option to a preferred stock issue.

Accepted Answer

A call provision allows the issuer of preferred stock to call back or redeem the stock from the shareholders at a predetermined price. When a sinking fund is also included, the issuer may have the option to use the funds accumulated in the sinking fund to call back the stock. This effectively adds a maturity option, as the stock can be redeemed at a certain point in time, giving investors some certainty about the return of their investment.

Question 6

A typical common stock issue has a maturity period of 10 years.

Accepted Answer

Common stock does not have a maturity period. Unlike bonds or other debt securities, common stocks are perpetual instruments and do not have a fixed maturity date.

Question 7

A firm undertakes stock repurchase only if the price of its stock is overvalued.

Accepted Answer

A firm may undertake stock repurchase for several reasons, including to return value to shareholders, boost earnings per share, or increase control of outstanding shares. The decision to repurchase stock is not solely based on whether the stock is overvalued or undervalued.

Question 8

On January 3 of the current year, the per-share stock price of a firm was $25, and on January 4 of the current year, it was $19. Which of the following is a probable reason for the decrease in the stock price?

Accepted Answer

An increased rate of return on alternative investments can make the current stock less attractive, leading to a decrease in its price as investors seek higher returns elsewhere.

Question 9

A call provision gives the issuing corporation the right to call in the preferred stock for redemption.

Accepted Answer

A call provision does give the issuing corporation the right to call in the preferred stock for redemption. This means that the issuer can redeem the stock at a predetermined price and time, which can be beneficial to them if interest rates or market conditions change.

Question 10

According to the convertibility provision, a common stock can be converted to a certain number of shares of preferred stock at the stated conversion price.

Accepted Answer

The convertibility provision typically allows preferred stock to be converted into a certain number of shares of common stock, not the other way around.

Question 11

A common stock's par value is always equal to the market value of the stock on the last day of the fiscal year in which the stock is issued.

Accepted Answer

The par value of a common stock is a nominal value assigned to the stock by the company at the time of issuance. It is not necessarily equal to the market value of the stock and is typically set at a low amount, such as $0.01 per share. The market value of the stock can fluctuate throughout the fiscal year and is determined by supply and demand in the stock market.

Question 12

Stock prices move opposite to the changes in the dividends stockholders expect to be paid in the future, but they move in the same direction as changes in rates of return.

Accepted Answer

Stock prices generally move in the same direction as the changes in the dividends stockholders expect to be paid in the future, and they move opposite to changes in rates of return (interest rates). Higher expected dividends usually increase stock prices, while higher rates of return (interest rates) typically decrease stock prices.

Quiz 7: Stocks Equity Characteristics and Valuation