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Exam III Finance 357: Business Finance (03085) Last Name First Name UTEID After graduating from the McCombs School of Business, you are hired by Silver Sachs as its investment banker. You are given with the following tasks: 1. ( True or False ) The CEO of your client firm, Tri-Star Electronics, is confused with many of the financial concepts, and sometimes makes false statements. For each of the following statements, evaluate whether it is true or false . If false, explain why. a) (1 point) The lower bound of an American put option value is “exercise price – price of stock.” True. If not, one can buy the put option at price \$X, immediately exercise the put option, and collect more than \$X, thus making an arbitrage profit. b) (1 point) Call option value is higher with a higher interest rate. True. Purchase of a call option allows the owner to delay her purchase of the underlying stock, which would be more beneficial if the opportunity cost is high. c) (1 point) Put option value is lower for stocks with higher volatility. False. Put option value is higher for stocks with higher volatility. Greater volatility increases the chance of share price being below the exercise price, and thus let the put option holder benefit. Greater volatility also increases the chance of share price being above the exercise price, but the put option holder does not make a loss in this case because he can opt not to exercise the option. d) (1 point) Call option value is zero when the option is at the money. False. Call option value is still positive since there is a positive probability for the share price to move above the exercise price. Of course, if the call option is at the money at the time of expiration, call option value would be zero.

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e) (1 point) The pay off to an investor that holds a corporate debt (with a face value of F ) issued by firm A with limited liability is same as the pay off to an investor that owns a stock and have written a call option, the exercise price of which is same as the face value of her bond. True. If one buys a stock and also writes a call with an exercise price of F , she will have the payoff when an investor holds a risky corporate debt with a face value of F . f) (1 point) Hold out problem can be resolved if a bidder owns shares of the target firm before the tender offer announcement. True. If a bidder has a toehold, he can make a positive gain if when faced with a hold out problem. g) (1 point) Value-decreasing takeovers are prevented when the target firm is dispersedly owned and its shareholders consider their decisions have a negligible impact on the outcome.
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