Q1 (10 marks). Please indicate whether the following statements are correct and provide an explanation for your answer.

a. Reducing the threat of corporate takeover increases the likelihood that managers will act in shareholders' interests. (5 marks)

b. Since bondholders receive fixed payments, they do not share in the gains if risky projects turn out to be highly successful. However, they do share in the losses if risky projects failand drive the firminto bankruptcy. Therefore, bondholders generally prefer to  see  corporate  managers  invest  in  low risk/low return projects rather than high risk/high return projects. (5 marks)

Q2 (10 marks). Assume that the corporate tax rate is 34% and the personal tax rate is 32%. The founders of a newly formed business are debating between setting up the firm as a partnership versus a corporation. The firm will not need to retain any earnings, so all of its after-tax income will be paid out to its investors, who will have to pay personal taxes on whatever they receive. What is the difference in the percentage of the firm's pre-tax income that investors actually receive and can spend under the corporate and partnership forms of organization?

Q3 (10 marks). Last year Rocky Corp. had EBIT of $80,000, and year-end assets (which is equal to its total invested capital) of $600,000. The debt-to-total-capital ratio was 30%, the interest rate on the debt was 7.5%, and the firm's tax rate was 35%. The new CFO wants to see how the ROE would have been affected if the firm had used a 50% debt-to-total-capital ratio. Assume that sales, operating costs, EBIT, total assets, total invested capital, and the tax rate would not be affected, but the interest rate would rise to 8.0%. By how much would the ROE change in response to the change in the capital structure?

Q4 (10 marks). Brookman Inc's latest EPS was $2.75, its book value per share was $22.75, it had 215,000 shares outstanding, and its debt/total assets ratio was 44%. The firm finances using only debt and common equity. How much debt was outstanding?

Q5 (10 marks). You plan to analyze the value of a potential investment by calculating the sum of the present values of its expected cash flows. The cashflows from the

investment are in the form of an ordinary annuity of 20,000 each year for 5 years.    Please indicate how the following factors would affect the value of this investment. a. The total amount of cash flows remains the same, but more of the cash flows are  received in the earlier years and less are received in the later years. (5 marks)

b. The riskiness of the investment's cash flows increases. (5 marks)

Q6 (10 marks). A U.S. Treasury bond will pay a lump sum of $1,000 exactly 3 years    from today. The nominal interest rate is 8%, quarterly compounding. What is the price of the bond.

Q7 (20 marks). RAK Corp. has 9 percent coupon bonds making annual payments with a YTM of 7.81 percent. The current yield on these bonds is 8.42 percent.

a. How many years to these bonds have left until they mature? (15 marks)

b. What is the relationship between the price of a bond and its YTM? (5 marks)