Question

1. A traditional bond:

		Has both an interest coupon and a face value.
		Is only issued by Fortune 500 companies.
		Tends to have a maturity of five years or less.
		Is no longer popular with investors.

2.

All of the following are data rules are associated with capital budgeting except:

	A.	Use cash flow numbers only.
	B.	Never consider inflation effects in capital budgeting
	C.	Use incremental numbers only
	D.	Include the effects of the project on quality and cycle time.

3.

Riise Company can sell a new issue of preferred stock to investors who require a 10% rate of return. What is the cost of the new issue if the flotation cost to issue each $100.00 face value share is 4% of face value?

	A.	4.00%.
	B.	6.00%.
	C.	10.00%.
	D.	10.42%.

Answer 1

1.

A tradition bond Has both an interest coupon and a face value.

It is the definition of traditional bond.

2.

Answer: option B. Never consider inflation effects in capital budgeting

Capital budgeting is a method used to identify which projects or investments are to be undertaken by a company or organization.

So, it includes use of cash flows, use of incremental numbers, effects of project on quality and time and it considers inflation effects also.

So, answer is option B.

3.

Answer: option D. 10.42%

Given face value = $100

Required rate of return = 10%

Dividend on preferred stock = 100 * 10% = $10

Net proceeds = Face value – floatation costs = 100- 4% of 100 = 100- 4 = $96

Cost of preferred stock = Dividend on preferred stock/ Net proceeds = 10/96 = 0.104167 = 10.42%

Cost of new issue = 10.42%