Question 1

Which one of these statements is true?

Accepted Answer

A) If virtually all projects have embedded options,then ignoring these options does not affect the value of the projects. 
B) Every business will benefit if it exercises its expansion option. 
C) The option to abandon a project lowers the project's value. 
D) Start-up businesses do not have any options until they have succeeded for one year. 
E) Every business idea has at least two possible outcomes. 
A) If virtually all projects have embedded options,then ignoring these options does not affect the value of the projects. 
B) Every business will benefit if it exercises its expansion option. 
C) The option to abandon a project lowers the project's value. 
D) Start-up businesses do not have any options until they have succeeded for one year. 
E) Every business idea has at least two possible outcomes. E

Question 2

You want to become a very successful entrepreneur.Your desire is to operate a business from a single location without becoming so large you lose personal touch with all the firm's employees and the day-to-day operations.Before determining what type of business you want to open,you have decided to compile a list of options that would add value to whatever business you select.Identify options that you would include in this list.

Accepted Answer

Keeping in mind that you want to maintain a hands-on approach and a single location,you might consider options such as franchising and licensing arrangements,internet services,and other options that will generate income for your firm but which will not require intense involvement on your part.Of course,the options to expand,to modify,and to abandon should to be included also.Since this is an open-end question,students may also list other options they find appealing.

Question 3

A SunSet Co.customer would like to obtain a 3-month option to purchase additional units of a product for $77 each.This product currently sells for $76 each.Assume u equals 1.1502 and d = .8694.Approximately what price per unit should SunSet charge for this option if the annual risk-free rate is 2.8 percent?

Accepted Answer

A) $4.79 
B) $5.98 
C) $6.17 
D) $6.02 
E) $5.07 
A) $4.79 
B) $5.98 
C) $6.17 
D) $6.02 
E) $5.07 E

Question 4

Assume a firm in the extraction industry has major assets consisting solely of cash,equipment,and a closed facility but yet the firm appears to have extraordinary value.This value is least apt to be attributable to the:

Accepted Answer

A) low exercise price held by the shareholders. 
B) option to open the facility when prices rise dramatically. 
C) option to keep the facility closed for an extended period of time. 
D) current operating cash flow. 
E) potential sale of the firm. 
A) low exercise price held by the shareholders. 
B) option to open the facility when prices rise dramatically. 
C) option to keep the facility closed for an extended period of time. 
D) current operating cash flow. 
E) potential sale of the firm.

Question 5

Why would a company pay an executive in options as opposed to salary?

Accepted Answer

There are several benefits to paying exe

Question 6

What are the values of u,the up state multiplier,and d,the down state multiplier,if there are monthly intervals and the standard deviation is .38?

Accepted Answer

A) 1.1159; .8961 
B) .0317; 1.0327 
C) .0317; .9683 
D) .2193; .7807 
E) 1.1159; −.1159 
A) 1.1159; .8961 
B) .0317; 1.0327 
C) .0317; .9683 
D) .2193; .7807 
E) 1.1159; −.1159

Question 7

Sam owns an oil field with a number of producing wells.In the past,he has started and stopped production of these wells as the price of oil fluctuated over time.Assume the government imposes additional requirements on non-producing wells that are still production capable.These requirements are expected to increase the cost of stopping well production by 30 percent.As a result,Sam should be:

Accepted Answer

A) keeping all wells open continuously. 
B) closing wells only if he plans to keep them closed permanently. 
C) willing to keep wells operating at a lower level of profitability than he has in the past. 
D) increasing the cost of capital he applies to his well evaluation analysis. 
E) opening wells at a lower popen price. 
A) keeping all wells open continuously. 
B) closing wells only if he plans to keep them closed permanently. 
C) willing to keep wells operating at a lower level of profitability than he has in the past. 
D) increasing the cost of capital he applies to his well evaluation analysis. 
E) opening wells at a lower popen price.

Question 8

Jeff is analyzing an expansion project for a new business and has developed this input for a Black-Scholes model.Stock price = $7,365,000,exercise price = $12,400,000,time period = 3 years,standard deviation = 14.5 percent,and the continuously compounded interest rate = 4.2 percent.What is the value of d1 as it is used in the model?

Accepted Answer

A) .1945 
B) .5487 
C) −1.4102 
D) .4593 
E) −1.4470 
A) .1945 
B) .5487 
C) −1.4102 
D) .4593 
E) −1.4470

Question 9

I.M.Greedy has been granted options on 500,000 shares.The stock is currently trading at $48 a share and the options are at the money.The standard deviation of returns averages 31 percent.The options mature in 5 years and the risk-free rate is 3.68 percent.What is the value of e−Rt?

Accepted Answer

A) .6087 
B) .7087 
C) .7952 
D) .8476 
E) .8319 
A) .6087 
B) .7087 
C) .7952 
D) .8476 
E) .8319

Question 10

Assume you are determining the risk-neutral probabilities of a price increase and decrease.In this situation,you know the expected return on the asset must equal the:

Accepted Answer

A) sponsoring firm's cost of capital. 
B) risk-free rate. 
C) market rate of return. 
D) annual inflation rate. 
E) CAPM rate of return. 
A) sponsoring firm's cost of capital. 
B) risk-free rate. 
C) market rate of return. 
D) annual inflation rate. 
E) CAPM rate of return.

Question 11

Under risk neutrality,the expected return on an asset will equal:

Accepted Answer

A) the market risk premium. 
B) the market rate of return. 
C) zero. 
D) the risk-free rate of interest. 
E) the asset beta times the market risk premium. 
A) the market risk premium. 
B) the market rate of return. 
C) zero. 
D) the risk-free rate of interest. 
E) the asset beta times the market risk premium.

Question 12

The binomial option pricing model is:

Accepted Answer

A) bell-curve shaped. 
B) symmetrical. 
C) hyperbolic. 
D) asymmetric. 
E) curvilinear. 
A) bell-curve shaped. 
B) symmetrical. 
C) hyperbolic. 
D) asymmetric. 
E) curvilinear.

Question 13

A CEO is being granted 1,000,000 at-the-money options.The current stock price is $45,the continuously compounded risk-free rate is 5 percent,and the variance on the stock's return is .04.The options expire in 5 years.What is the value of the options contract? If the CEO had negotiated a larger salary and only 10,000 options,what would be the value of that options contract?

Accepted Answer

d₁ = [(R + .5σ²)(t)]/(σ²^t)^.5 d₁ = {[.05 + .5(.0

Question 14

A stock has a market price of $25 and a standard deviation of returns of 24 percent.The $25 call option matures in 4 months and the risk-free rate is 2.89 percent.N(d1)is .555198 and N(d2)is .500096.What is the value of the call option per share of stock?

Accepted Answer

A) $1.71 
B) $1.86 
C) $1.50 
D) $1.62 
E) $2.16 
A) $1.71 
B) $1.86 
C) $1.50 
D) $1.62 
E) $2.16

Question 15

Ernst is trying to evaluate some options for a firm.However,he can't remember how to compute e−Rt.Can you help him? If the rate is 4.38 percent and the time period is 6 months,what is the value of e−Rt?

Accepted Answer

A) .9087 
B) .8087 
C) .9952 
D) .8476 
E) .9783 
A) .9087 
B) .8087 
C) .9952 
D) .8476 
E) .9783

Question 16

If a project has both expansion and abandonment options,then the:

Accepted Answer

A) shorter the available life of the project the less valuable the project is. 
B) longer the available life of the project the less valuable the project is. 
C) options will offset each other and therefore add no value to the project. 
D) project life becomes irrelevant. 
E) project should always be accepted. 
A) shorter the available life of the project the less valuable the project is. 
B) longer the available life of the project the less valuable the project is. 
C) options will offset each other and therefore add no value to the project. 
D) project life becomes irrelevant. 
E) project should always be accepted.

Question 17

The opportunity to defer investing in a project until a later date may have value primarily because:

Accepted Answer

A) the cost of capital may increase. 
B) project cash flows may be lower in the future. 
C) investment costs tend to increase over time. 
D) the option to abandon may disappear. 
E) market conditions may improve. 
A) the cost of capital may increase. 
B) project cash flows may be lower in the future. 
C) investment costs tend to increase over time. 
D) the option to abandon may disappear. 
E) market conditions may improve.

Question 18

The call option on a dividend-paying stock compared to a comparable non-dividend paying stock is:

Accepted Answer

A) more valuable because of the dividend payments. 
B) equal in value. 
C) less valuable because cash dividends lower the stock price. 
D) equal to the cost of the non-dividend paying stock option. 
E) either equal to or greater than the value of the non-dividend paying stock option. 
A) more valuable because of the dividend payments. 
B) equal in value. 
C) less valuable because cash dividends lower the stock price. 
D) equal to the cost of the non-dividend paying stock option. 
E) either equal to or greater than the value of the non-dividend paying stock option.

Question 19

Jennifer has just been granted at-the-money company options on 300,000 shares.These options expire in 5 years and are exercisable after 3 years.The options are valued at $1.2 million.It is normal for her to receive annual option grants such as this.She also receives a current salary of $550,000.Why might Jennifer prefer to receive a straight annual salary of $1.5 million rather than this salary and option combination?

Accepted Answer

Jennifer most likely has a large portion

Question 20

Permanently rejecting an investment project today may not be a wise decision primarily because:

Accepted Answer

A) the size of the firm will be less than it would be with the project. 
B) there are always errors in the estimation of NPVs. 
C) the management team may be replaced. 
D) the company is foregoing all future options. 
E) the firm may not have any other investment opportunities. 
A) the size of the firm will be less than it would be with the project. 
B) there are always errors in the estimation of NPVs. 
C) the management team may be replaced. 
D) the company is foregoing all future options. 
E) the firm may not have any other investment opportunities.

Exam 23: Options and Corporate Finance: Extensions and Applications

Which one of these statements is true?

Assume a firm in the extraction industry has major assets consisting solely of cash,equipment,and a closed facility but yet the firm appears to have extraordinary value.This value is least apt to be attributable to the:

Why would a company pay an executive in options as opposed to salary?

What are the values of u,the up state multiplier,and d,the down state multiplier,if there are monthly intervals and the standard deviation is .38?

I.M.Greedy has been granted options on 500,000 shares.The stock is currently trading at $48 a share and the options are at the money.The standard deviation of returns averages 31 percent.The options mature in 5 years and the risk-free rate is 3.68 percent.What is the value of e−Rt?

Assume you are determining the risk-neutral probabilities of a price increase and decrease.In this situation,you know the expected return on the asset must equal the:

Under risk neutrality,the expected return on an asset will equal:

The binomial option pricing model is:

A stock has a market price of $25 and a standard deviation of returns of 24 percent.The $25 call option matures in 4 months and the risk-free rate is 2.89 percent.N(d1)is .555198 and N(d2)is .500096.What is the value of the call option per share of stock?

Ernst is trying to evaluate some options for a firm.However,he can't remember how to compute e−Rt.Can you help him? If the rate is 4.38 percent and the time period is 6 months,what is the value of e−Rt?

If a project has both expansion and abandonment options,then the:

The opportunity to defer investing in a project until a later date may have value primarily because:

The call option on a dividend-paying stock compared to a comparable non-dividend paying stock is:

Permanently rejecting an investment project today may not be a wise decision primarily because:

Introduction to Corporate Finance

Financial Statements and Cash Flow

Financial Statements and Cash Flow

Discounted Cash Flow Valuation

Net Present Value and Other Investment Rules

Making Capital Investment Decisions

Risk Analysis, real Options, and Capital Budgeting

Interest Rates and Bond Valuation

Stock Valuation

Lessons From Market History

Return, risk, and the Capital Asset Pricing Model Capm

An Alternative View of Risk and Return: the Arbitrage Pricing Theory

Risk, cost of Capital, and Valuation

Efficient Capital Markets and Behavioral Challenges

Long-Term Financing

Capital Structure: Basic Concepts

Capital Structure: Limits to the Use of Debt

Valuation and Capital Budgeting for the Levered Firm

Dividends and Other Payouts

Raising Capital

Leasing

Options and Corporate Finance

Warrants and Convertibles

Derivatives and Hedging Risk

Short-Term Finance and Planning

Cash Management

Credit and Inventory Management

Mergers,acquisitions,and Divestitures

Financial Distress

International Corporate Finance

Filters

I.M.Greedy has been granted options on 500,000 shares.The stock is currently trading at $48 a share and the options are at the money.The standard deviation of returns averages 31 percent.The options mature in 5 years and the risk-free rate is 3.68 percent.What is the value of e⁻^Rt?

A stock has a market price of $25 and a standard deviation of returns of 24 percent.The $25 call option matures in 4 months and the risk-free rate is 2.89 percent.N(d₁)is .555198 and N(d₂)is .500096.What is the value of the call option per share of stock?

Ernst is trying to evaluate some options for a firm.However,he can't remember how to compute e⁻^Rt.Can you help him? If the rate is 4.38 percent and the time period is 6 months,what is the value of e⁻^Rt?