Bubba buys a $4 convertible preferred with a $50 par value that is exchangeable for common stock at 47.50. If the preferred stock is trading at 52 and the common stock at 51, Bubba determines that the preferred stock is:
Answer(s): C
underpriced and should rise quickly. The parity price for the common stock is about $49.38 - determined as:50 / 47.50 = 1.053 52 / 1.053 = 49.38 Since the common stock is trading at 51, the preferred is underpriced.
A case of leverage is:
Answer(s): B
borrowing at 6% and investing the funds at 10%. Leverage is all about using money obtained at a lower cost than what can be earned deploying the funds elsewhere. It is unrelated to arbitrage.
Bubba holds 200 shares of common stock in a utility company and receives rights to subscribe to an additional 100 shares at $20. The utility company is raising $40 million of new capital.How many rights does Bubba receive?
Answer(s): D
200. In an issue of rights, there is always one right per share. Bubba owns 200 shares and thus receives the same number of rights.
Bubba holds 200 shares of common stock in a utility company and receives rights to subscribe to an additional 100 shares at $20. The utility company is raising $40 million of new capital.How many shares of common stock for the utility company were outstanding prior to the rights offering?
4,000,000. Bubba owns 200 shares and receives rights for 100 more. The basis for the rights offering is therefore one new share for each two shares outstanding. The utility company is raising $40 million by selling shares at $20. Therefore, the company is selling 2,000,000 new shares. Since the ratio of existing shares to new shares is 2 to 1, there must be 4,000,000 presently outstanding shares.
Bubba owns a perpetual warrant to buy one share of Internet Corporation common stock at $30. Internet Corporation stock is trading at 41.50 and is ex-dividend today at $0.75.What is the market value of Bubba’s warrant?
cannot be determined. Bubba can put away the calculator. The warrant is “perpetual” so the value is not determinable from today’s price of the common stock.
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