Deck 13: Sourcing Equity and Debt Globally

Question 1

Which of the following is NOT a factor offsetting the tax advantage of debt as a source of financing?

A)increased agency costs
B)increased probability of financial distress (bankruptcy)due to fixed interest payments
C)alternative tax shields to those supplied by interest payments
D)None of the above are factors.

Answer 1

None of the above are factors.

Question 2

Financial practice suggests that there is a range for an optimal capital structure for a firm within an industry rather than a specific optimal ratio of debt to equity.

Answer 2

True

Question 3

Most financial theorists believe that the optimal capital structure is a ________ with a debt to total value ratio somewhere around ________.

A)point; 50%
B)point; 25%
C)range; 30%-60%
D)range; 10%-40%

Answer 3

range; 30%-60%

Question 4

Financial theory has at last provided us with a single optimal capital structure for domestic firms.

Question 5

One of the most important factors in making debt less expensive than equity is

A)the tax deductibility of depreciation.
B)the tax deductibility of equity.
C)the tax deductibility of dividends.
D)the tax deductibility of interest.

Question 6

In theory,a MNE should support ________ debt ratios than a purely domestic firm because their cash flows are ________.

A)lower; more stable due to international diversification
B)lower; less stable due to international diversification
C)higher; more stable due to international diversification
D)higher; less stable due to international diversification

Question 7

Which financial economists are most closely associated with the financial theory of optimal capital structure?

A)Modigliani and Miller
B)Fama, Fisher, Jensen, and Roll
C)Black and Scholes
D)Markowitz and Sharpe

Question 8

One of the most important factors in making debt less expensive than equity is

A)the seniority of equity obligations to debt claims.
B)the tax deductibility of dividends.
C)the tax deductibility of equity.
D)the seniority of debt obligations to equity claims.

Question 9

Given the following information,what is the cost of equity for the Teevox Corporation? Expected return in the domestic market is 12%,the risk-free rate of return is 4%,the firm's beta is 1.1,and the required return on debt for the firm is 7%.

A)12.00%
B)10.00%
C)12.80%
D)7.70%

Question 10

Not all firms have the same optimal capital structure.Factors that might influence a firm's capital structure include

A)the industry in which it operates.
B)the volatility of its sales and operating income.
C)the collateral value of its assets.
D)all of the above.

Question 11

Investment banking services include which of the following?

A)advising when a security should be cross-listed
B)preparation of stock prospectuses
C)help to determine the price of the issue
D)all of the above

Question 12

The choice of when and how to source equity globally is usually aided early on by the advice of

A)an investment banker.
B)your stock broker.
C)a commercial banker.
D)the internal revenue service.

Question 13

Wallet Drug Company has just recently raised money abroad for the first time in the history of the firm.Prior to the recent equity issue abroad,the firm had a D/V ratio of 40%,an effective tax rate of 30%,a before-tax cost of debt of 9%,and a domestic beta of 1.3.The expected return on the market portfolio was 13% and the risk-free rate was 5%.After the equity issue,Wallet Drug has a D/V ratio of 50%,their after-tax cost of debt has not changed,nor has the effective tax rate,the firm's international beta is 1.0,the expected return on the market portfolio is only 12%,and the risk-free rate is still 5%.What is the firm's new cost of equity after the international issue?

A)9.15%
B)11.76%
C)12.00 %
D)15.40%

Question 14

Most firms raise their initial capital in foreign markets.

Question 15

Which of the following is the typical order of sourcing capital abroad?

A)An international bond issue, then cross listing the outstanding issues on other exchanges, then an international bond issue in the target market.
B)An international bond issue in the target market then cross listing the outstanding issues on other exchanges, then an international bond issue.
C)An international bond issue, then an international bond issue in the target market, then cross listing the outstanding issues on other exchanges.
D)Cross listing the outstanding issues on other exchanges, then an international bond issue, then an international bond issue in the target market.

Question 16

For most firms,the cost of capital decreases to a low point as the firm ________ debt financing.Beyond some optimal level,the cost of capital increases as the amount of debt ________.

A)decreases; increases
B)decreases; decreases
C)increases; increases
D)increases; decreases

Question 17

Wallet Drug Company has just recently raised money abroad for the first time in the history of the firm.Prior to the recent equity issue abroad,the firm had a D/V ratio of 40%,an effective tax rate of 30%,a before-tax cost of debt of 9%,and a domestic beta of 1.3.The expected return on the market portfolio was 13% and the risk-free rate was 5%.After the equity issue,Wallet Drug has a D/V ratio of 50%,their after-tax cost of debt has not changed,nor has the effective tax rate,the firm's international beta is 1.0,the expected return on the market portfolio is only 12%,and the risk-free rate is still 5%.What is the change in the firm's WACC after the international equity issue?

A)2.61%
B)1.74%
C)0.63%
D)There is no change in the firm's WACC.

Question 18

The domestic theory of optimal capital structure does not need to be modified for MNEs.

Question 19

Wallet Drug Company has just recently raised money abroad for the first time in the history of the firm.Prior to the recent equity issue abroad,the firm had a D/V ratio of 40%,an effective tax rate of 30%,a before-tax cost of debt of 9%,and a domestic beta of 1.3.The expected return on the market portfolio was 13% and the risk-free rate was 5%.After the equity issue,Wallet Drug has a D/V ratio of 50%,their after-tax cost of debt has not changed,nor has the effective tax rate,the firm's international beta is 1.0,the expected return on the market portfolio is only 12%,and the risk-free rate is still 5%.What was the firm's WACC prior to the issue of new common stock abroad?

A)9.15%
B)11.76%
C)13%
D)15.4%

Question 20

Which of the following would likely be the ultimate step in a firm's efforts to source equity globally?

A)an international bond issue
B)an equity listing in less-prestigious markets
C)an equity listing in a target market
D)a Euroequity issue in global equity markets

Question 21

Of the following,which is NOT considered to be an advantage to MNEs of having a financial structure adhere to local debt norms?

A)A localized financial structure reduces criticism of foreign subsidiaries that have previously used a different capital structure.
B)A localized financial structure helps management evaluate return on equity investment relative to local competitors in the same industry.
C)MNE have a competitive advantage over the locals, thus by using the local capital structure, the MNE is even stronger.
D)All of the above are noted as advantages to having a localized capital structure.

Question 22

Who pays the costs of creating a sponsored ADR?

A)the foreign firm whose stocks underlie the ADR
B)the U.S. bank creating the ADR
C)both the U.S. bank and the foreign firm
D)the SEC since they require the regulation

Question 23

Of the following,which is NOT an internal source of financing for the foreign subsidiary?

A)equity in the form of cash from the parent firm
B)equity in the form of real goods from the parent
C)debt in the form of loans from the same commercial bank used by the parent
D)All of the above are internal sources of financing for the foreign subsidiary.

Question 24

Of the following,which is NOT an external source of financing for the foreign subsidiary?

A)borrowing from sister subsidiaries
B)borrowing from commercial banks in the parent country
C)selling new stock to local shareholders
D)All of the above are external sources of financing for the foreign subsidiary.

Question 25

Level II ADRs must meet

A)U.S. GAAP standards.
B)home country accounting standards.
C)both U.S. GAAP and home country standards.
D)none of the above.

Question 26

Level III ADR commitment applies to

A)firms that want to list existing shares on the NYSE.
B)banks issuing foreign mutual funds.
C)ADR issues of under $25,000.
D)the sale of a new equity issued in the United States.

Question 27

Of the following,which is NOT considered to be a disadvantage to MNEs of having a financial structure adhere to local debt norms?

A)Why adhere to local standards if, as an MNE, the firm has important competitive advantages relating to capital structure?
B)Adhering to local standards may push the MNE consolidated financial ratios out of the optimal range.
C)A localized financial structure makes it difficult for management to compare operating results with those of local competitors.
D)All of the above are noted as disadvantages to having a localized capital structure.

Question 28

Level I ADRs trade primarily

A)on the New York Stock Exchange.
B)on the American Stock Exchange.
C)over the counter or pink sheets.
D)Level I ADRs typically do not trade at all, but instead are privately issued and held until maturity.

Question 29

ADRs that are created at the request of a foreign firm wanting its shares traded in the United States are ________.

A)facilitated
B)unfacilitated
C)sponsored
D)unsponsored

Question 30

Depositary receipts traded outside the United States are called ________ depositary receipts.

A)Euro
B)Global
C)American
D)None of the above

Question 31

Each ADR represents ________ of the shares of the underlying foreign stock.

A)a multiple
B)100
C)1
D)ADRs have nothing to do with foreign stocks.

Question 32

Transaction costs for trading equity securities as measured by the bid-ask spreads are lowest on which exchange?

A)NYSE
B)Nasdaq
C)London
D)Tokyo

Question 33

Which of the following is NOT an advantage of ADRs to U.S.shareholders?

A)Transfer of ownership is done in the U.S. in accordance with U.S. laws.
B)In the event of the death of the shareholder, the estate does not go through a foreign court.
C)Settlement for trading is generally faster in the United States.
D)All of the above are advantages of ADRs.

Question 34

________ are negotiable certificates issued by a bank to represent the underlying shares of stock,which are held in trust at a foreign custodian bank.

A)Negotiable CDs
B)International mutual funds
C)Depositary receipts
D)Eurodeposits

Question 35

Obtaining local currency debt obligations is particularly attractive to an MNE if the subsidiary has

A)substantial accounts payable in the local currency.
B)substantial financial obligations in foreign currency units.
C)substantial accounts receivable in the local currency.
D)all of the above.

Question 36

Level ________ is the easiest standard to satisfy for issuing ADRs.

A)144a
B)III
C)II
D)I

Question 37

Internal sources of funds for a foreign subsidiary of a MNE may come from the parent company but not from a sister subsidiary.Funding from sister subsidiaries are considered external funding.

Question 38

The MNE in an effort to minimize the cost of external funds should choose ________ funds to minimize ________.

A)internal; debt financing
B)internal; taxes and political risk
C)external; debt financing
D)external; taxes and political risk

Question 39

An unsponsored ADR may be initiated without the approval of the foreign firm with the underlying stock.

Question 40

ADRs cannot be exchanged for the underlying shares of the foreign stock,therefore,arbitrage cannot keep the prices in line with the foreign price of the stock.

Question 41

Economic studies have found that international cross-listing of securities across financial markets resulted in ________ abnormal returns that were ________ for firms resident in emerging markets with a low level of legal barriers to capital flows than for firms resident in developed countries.

A)positive; greater
B)positive; smaller
C)negative; greater
D)negative; smaller

Question 42

According to the U.S.school of thought,the worldwide trend toward fuller and more standardized disclosure rules should ________ the cost of equity capital.

A)increase
B)decrease
C)have no impact on
D)none of the above

Question 43

A ________ is defined as one that targets investors in a single country and underwritten in whole or part by investment institutions from that country.

A)SEC rule 144a placement
B)directed public share issue
C)Euroequity public issue
D)strategic alliance

Question 44

Empirical evidence shows that new issues of equity by domestic firms in the U.S.market typically has a ________ stock price reaction and new equity issues in the U.S.markets by foreign firms with segmented domestic markets have a ________ stock price reaction.

A)negative; negative
B)positive; negative
C)negative; positive
D)positive; positive

Question 45

Which of the following is NOT a barrier to cross listing shares?

A)Fixed income securities such as bonds are not traded in the subject market.
B)investor relations
C)disclosure requirements
D)All are barriers to cross listing shares.

Question 46

Empirical evidence has found that on average public firms that have been privatized by issuing public equity have

A)improved profitability.
B)higher debt levels.
C)lower real sales.
D)all of the above.

Question 47

SEC rule 144A permits institutional buyers to trade privately placed securities without the previous holding periods restrictions and without requiring SEC registration.

Question 48

Which one of the following characteristics does NOT contribute to overall market liquidity?

A)Significant market making activities.
B)Reduced transaction costs.
C)Effective crisis management.
D)All of the above contribute to efficient markets.

Question 49

Another school of thought about the worldwide trend toward fuller and more standardized disclosure rules is that the cost of U.S.level equity capital disclosure

A)chases away potential listers of equity.
B)is an onerous costly burden.
C)leads to fewer foreign firms cross listing in U.S. equity markets.
D)all of the above.

Question 50

Which of the following were NOT identified by the authors as an alternative instrument to source equity in global markets?

A)sale of a directed public share issue to investors in a target market
B)private placements under SEC rule 144a
C)sale of shares to private equity funds
D)all of the above

Question 51

Private equity funds (PEF)differ from traditional venture capital (VC)funds in that

A)VC operate mainly in lesser-developed countries while PEF do not.
B)VC typically invest in family business whereas PEF do not.
C)VC is almost unavailable to emerging markets while PEF capital is available.
D)All of the above are true.

Question 52

Empirical evidence has found that on average public firms that have been privatized by issuing public equity have

A)lowered capital investment levels.
B)decreased efficiency.
C)expanded their employment.
D)all of the above.

Question 53

By cross listing and selling its shares on a foreign stock exchange a firm typically tries to accomplish which of the following?

A)improve the liquidity of its existing shares
B)increase its share price
C)increase the firm's visibility
D)all of the above

Question 54

The least liquid stock markets as identified by the authors offer little liquidity for their own domestic firms,and are of little value to foreign firms.

Question 55

The authors note empirical evidence that shows cross-listing foreign shares of stock on U.S.exchanges has a positive stock price effect.________ for the listing of ADRs.

A)There is no stock price reaction
B)There is a negative stock price reaction
C)There is a positive stock price reaction
D)None of the above is true.

Question 56

An MNE may cross list its shares on a foreign stock exchange so that it can

A)create a secondary market so that shares may be used to compensate top local managers.
B)create a secondary market so that shares can be used to acquire local firms.
C)increase the firm's visibility to its customers and employees.
D)accomplish all of the above.

Question 57

The term "euro" as used in the euro equity market implies

A)the issuers are located in Europe.
B)the investors are located in Europe.
C)both A and B.
D)none of the above.

Question 58

For the most part,U.S.SEC disclosure requirements are ________ stringent than other,non-U.S.equity market rules.

A)more
B)less
C)as equally
D)none of the above

Question 59

The number of foreign firms traded on the London exchange is ________ than the number traded on the NYSE,and the costs of listing and disclosure in London are ________ those for the NYSE.

A)less than; less than
B)less than; greater than
C)greater than; less than
D)greater than; greater than

Question 60

In addition to gaining liquidity,which of the following could also be considered a legitimate reason for cross-listing equity?

A)enhance a firm's local image
B)become more familiar with the local financial community
C)get better local press coverage
D)all of the above

Question 61

Strategic alliances are normally formed by firms that expect to gain synergies from which of the following?

A)economies of scale
B)economies of scope
C)complementary marketing
D)all of the above

Question 62

Eurocurrencies are NOT the same as the euro developed for the common European currency.

Question 63

The authors identify four alternative financial instruments for sourcing equity abroad.Identify and explain one of these techniques.In your answer provide a motivation as to why a firm would wish to choose this particular technique for raising equity abroad.

Question 64

Which of the following is NOT true regarding Euro-Medium-Term notes (EMTNs)when compared to typical long-term bonds?

A)The EMTN is a facility allowing continuous issuance over a short period of time.
B)EMTN coupon payments are on set calendar dates regardless of the date of issue.
C)EMTNs are relatively small, often with totals of $5 million or less.
D)All of the above are true.

Question 65

There is much debate about whether an MNE should consider individual country norms,known as localization,when attempting to optimize the consolidated capital structure and minimize the firm's cost of capital.Provide arguments for the advantages and disadvantages of localization of capital structure for subsidiaries.Do you think MNEs should localize the capital structure of their subsidiaries? Why/why not?

Question 66

By cross-listing and selling its shares on a foreign stock exchange a firm typically tries to accomplish one or more objectives.List and briefly explain each of the five objectives identified by your authors.

Question 67

ADRs are a popular investment tool for many U.S.investors.In recent years several alternatives for investing in foreign equity securities have become available for U.S.investors,yet ADRs remain popular.Define what an ADR is and provide at least three examples of the advantages they may hold over alternative foreign investment vehicles for U.S.investors.

Question 68

Eurocredits are

A)bank loans to MNEs and others denominated in a currency other than that of the country where the bank is located.
B)typically variable rate and tied to the LIBOR.
C)usually for maturities of six months or less.
D)All of the above are true.

Question 69

General Motors has agreed to a syndicated eurocredit loan with the following terms: A revolving loan of $100,000,000 with an up-front fee of 2% of the principal and an interest rate of LIBOR plus 75 basis points.If the payments are made every six months and the current LIBOR rate is 4.00%,what is the effective annual cost of this loan?

A)4.75%
B)4.85%
C)4.95%
D)4.00%

Question 70

Of the following,which was NOT cited by the authors as a valuable function provided by the Eurocurrency market?

A)Eurocurrency deposits are an efficient and convenient money market device for holding excess corporate liquidity.
B)Eurocurrency deposits are a tool used by the Federal Reserve to regulate the money supply of countries that peg their currency against the U.S. dollar.
C)The Eurocurrency market is a major source of short-term bank loans to finance corporate working capital needs.
D)All of the above were cited by the authors.

Question 71

The Eurocurrency market continues to thrive because it is a large international money market relatively free of governmental regulation and interference.

Question 72

Eurobanks are

A)banks where Eurocurrencies are deposited.
B)major world banks that conduct a Eurocurrency business in addition to normal banking activities.
C)financial intermediaries that simultaneously bid for time deposits in and make loans in a currency other than that of the currency of where it is located.
D)All of the above are descriptions of a Eurobank.

Question 73

There are no essay questions for this section.
13.2 Optimal Financial Structure

Question 74

________ are domestic currencies of one country on deposit in a second country.

A)LIBORs
B)Eurocurrencies
C)Federal funds
D)Discount window deposits

Question 75

Optimal capital structure in a domestic market is determined by many factors.Is there a single best debt ratio for a firm.If so,what is it? Does there appear to be a range for optimal capital structure for U.S.firms? If so,what is it? What factors were identified by the authors as important for an individual firm's optimal capital structure?

Question 76

What are the two schools of thought regarding the worldwide trend toward increased financial disclosure by publicly traded firms.Explain which school of thought you hold to and why.

Question 77

How does market segmentation impact the effect on share prices from cross-listing on foreign stock exchanges?

Question 78

The modern Eurodollar market has been operating since ________.

A)post-WWI
B)the great depression of the 1930s
C)post-WWII
D)the mid 1970s when the Bretton Woods standard of fixed currency exchange rates was eliminated.

Question 79

In general,which has the shorter maturity and is more appropriate for funding short-term inventory needs?

A)commercial paper
B)Euro-Medium-Term notes (EMTNs)
C)the international bond market
D)all of the above

Question 80

The Euro-medium-term-note (EMTN)has filled a substantial niche market in global financing.What are the distinguishing characteristics of the EMTN and why is it such a popular form of financing for MNEs?