Chapter 18—Long-Term Financing

1. Ideally, a firm desires to denominate bonds in a currency that:

a. exhibits a low interest rate and is expected to appreciate.
b. exhibits a low interest rate and is expected to depreciate.
c. exhibits a high interest rate and is expected to depreciate.
d. exhibits a high interest rate and is expected to appreciate.
ANS: B PTS: 1

2. Floating-rate bonds are often issued with a floating coupon rate that is tied to LIBOR.
a. True
b. False

ANS: T PTS: 1

3. A U.S. firm could issue bonds denominated in euros and partially hedge against exchange rate risk by:
a. invoicing its exports in U.S. dollars.
b. requesting that any imports ordered by the firm be invoiced in U.S. dollars.
c. invoicing its exports in euros.
d. requesting that any imports ordered by the firm be invoiced in the currency denominating
the bonds.
ANS: C PTS: 1

4. Firm X conducts all business transactions in U.S. dollars. If it issues two sets of bonds, each denominated
in a different foreign currency, it can:
a. reduce exchange rate risk relative to issuing a bond denominated in U.S. dollars.
b. reduce exchange rate risk relative to issuing a bond denominated in a single foreign
currency.
c. A and B
d. none of the above
ANS: B PTS: 1

5. Simulation is useful in the bond-denomination decision since it can:

a. precisely compute the cost of financing with bonds denominated in a single foreign
currency.
b. precisely compute the cost of financing with bonds denominated in a portfolio of foreign
currencies.
c. assess the probability that a bond denominated in a foreign currency will be less costly
than a bond denominated in the home currency.
d. A and B
ANS: C PTS: 1

6. An interest rate swap between two firms of different countries enables the exchange of ____ for ____.
a. fixed-rate payments; floating-rate payments
b. stock; interest deductions on taxes
c. interest payments on loans; ownership of debt of less developed countries
d. interest payments on loans; stock
ANS: A PTS: 1

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 7. If U.S. firms issue bonds in ____, the dollar outflows to cover fixed coupon payments increase as the
dollar ____.
a. a foreign currency; weakens
b. dollars; strengthens
c. a foreign currency; strengthens
d. dollars; weakens
ANS: A PTS: 1

8. The yields offered on newly issued bonds denominated in dollars have:

a. consistently increased over the last 10 years.
b. consistently decreased over the last 10 years.
c. remained stable.
d. none of the above
ANS: D PTS: 1

9. When ignoring exchange rate risk, bond yields:

a. are the same for all currencies.
b. are consistently higher for all non-U.S. bonds than U.S. bonds.
c. are consistently lower for all non-U.S. bonds than U.S. bonds.
d. none of the above
ANS: D PTS: 1

10. A U.S. firm has received a large amount of cash inflows periodically in Swiss francs as a result of
exporting goods to Switzerland. It has no other business outside the U.S. It could best reduce its exposure
to exchange rate risk by:
a. issuing Swiss franc-denominated bonds.
b. purchasing Swiss franc-denominated bonds.
c. purchasing U.S. dollar-denominated bonds.
d. issuing U.S. dollar-denominated bonds.
ANS: A PTS: 1

11. A U.S. firm has a Canadian subsidiary that remits some of its earnings to the parent on an annual basis.
The firm has no other foreign business. The firm could best reduce its exposure to exchange rate risk by
issuing bonds denominated in:
a. U.S. dollars.
b. Canadian dollars.
c. multiple currencies.
d. euros.
ANS: B PTS: 1

12. If the currency denominating a foreign bond depreciates against the firm's home currency, the funds
needed to make coupon payments will increase.
a. True
b. False

ANS: F PTS: 1

13. An interest rate swap is commonly used by an issuer of fixed-rate bonds to:
a. convert to floating-rate debt.
b. hedge exchange rate risk.

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 c. lock in the interest payments on debt.
d. remove the default risk of its debt.
ANS: A PTS: 1

14. A currency swap between two firms of different countries enables the exchange of ____ for ____ at
periodic intervals.
a. stock; one currency
b. stock; a portfolio of foreign currencies
c. one currency; stock options
d. one currency; another currency
ANS: D PTS: 1

15. Assume a U.S.-based subsidiary wants to raise $1,000,000 by issuing a bond denominated in Pakistani
rupees (PKR). The current exchange rate of the rupee is $.02. Thus, the MNC needs ____ rupees to obtain
the $1,000,000 needed.
a. 50,000,000
b. 20,000
c. 1,000,000
d. none of the above
ANS: A
SOLUTION: $1,000,000/$.02 = PKR50,000,000

PTS: 1

16. An MNC issues ten-year bonds denominated in 500,000 Philippines pesos (PHP) at par. The bonds have a
coupon rate of 15%. If the peso remains stable at its current level of $.025 over the lifetime of the bonds
and if the MNC holds the bonds until maturity, the financing cost to the MNC will be:
a. 10.0%.
b. 12.5%.
c. 15.0%.
d. none of the above
ANS: C
SOLUTION: Since the bonds are issued at par, and since the exchange rate remains stable
over the life of the bonds and the bonds are held until maturity, the financing
cost will be exactly the coupon rate of the bond.

PTS: 1

17. New Hampshire Corp. has decided to issue three-year bonds denominated in 5,000,000 Russian rubles at
par. The bonds have a coupon rate of 17%. If the ruble is expected to appreciate from its current level of
$.03 to $.032, $.034, and $.035 in years 1, 2,and 3, respectively, what is the financing cost of these
bonds?
a. 17%.
b. 23.18%.
c. 22.36%.
d. 23.39%.
ANS: D
SOLUTION:
Annual Cost of
Year 1 Year 2 Year 3 Financing

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 Payments in rubles 850,000 850,000 5,850,000
Forecasted exchange rate of ruble $.032 $.034 $.035
Payments in dollars $27,200 $28,900 $204,750 23.39%

PTS: 1

18. In a(n) ____ swap, two parties agree to exchange payments associated with bonds; in a(n) ____ swap, two
parties agree to periodically exchange foreign currencies.
a. interest rate; currency
b. currency; interest rate
c. interest rate; interest rate
d. currency; currency
ANS: A PTS: 1

19. Good Company prefers variable to fixed rate debt. Bad Company prefers fixed to variable rate debt.
Assume the following information for Good and Bad Companies:

Fixed Rate Bond Variable Rate Bond

Good Company 10% LIBOR + 1%
Bad Company 12% LIBOR + 1.5%

Given this information:

a. an interest rate swap will probably not be advantageous to Good Company because it can
issue both fixed and variable debt at more attractive rates than Bad Company.
b. an interest rate swap attractive to both parties could result if Good Company agreed to
provide Bad Company with variable rate payments at LIBOR + 1% in exchange for fixed
rate payments of 10.5%.
c. an interest rate swap attractive to both parties could result if Bad Company agreed to
provide Good Company with variable rate payments at LIBOR + 1% in exchange for fixed
rate payments of 10.5%.
d. none of the above
ANS: B PTS: 1

20. ____ are beneficial because they may reduce transaction costs. However, MNCs may not be able to
obtain all the funds that they need.
a. Private placements
b. Domestic equity offerings
c. Global equity offerings
d. Global debt offerings
ANS: A PTS: 1

21. Most MNCs obtain equity funding:

a. in foreign countries.
b. in their home country.
c. through global offerings.
d. through private placements.
ANS: B PTS: 1

22. Some firms may be uncomfortable issuing bonds denominated in foreign currencies because exchange
rates are ____ difficult to predict over ____ time horizons.
a. less; long

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 b. more; short
c. more; long
d. none of the above
ANS: C PTS: 1

23. If the foreign currency that was borrowed appreciates over time, an MNC will need fewer funds to cover
the coupon or principal payments. [Assume the MNC has no other cash flows in that currency.]
a. True
b. False

ANS: F PTS: 1

24. U.S.-based MNCs whose foreign subsidiary generates large earnings may be able to offset exposure to
exchange rate risk by issuing bonds denominated in the subsidiary's local currency.
a. True
b. False

ANS: T PTS: 1

25. Countries in emerging markets such as in Latin America tend to have ____ interest rates, and so the yields
offered on bonds issued in those countries is ____.
a. low; high
b. high; low
c. high; high
d. none of the above
ANS: C PTS: 1

26. MNCs can use ____ to reduce exchange rate risk. This occurs when two parties provide simultaneous
loans with an agreement to repay at a specified point in the future.
a. forward contracts
b. currency swaps
c. parallel loans
d. none of the above
ANS: C PTS: 1

27. An upward-sloping yield curve for a foreign country means that annualized yields there are ____ for
short-term debt than for long-term debt. The yield curve in this country reflects ____.
a. higher; several periods
b. lower; several periods
c. higher; a specific point in time
d. lower; a specific point in time
ANS: D PTS: 1

28. The ____ for a given country represents the annualized yield offered on debt for various maturities.
a. LIBOR
b. yield curve
c. parallel loan
d. interest rate swap
ANS: B PTS: 1

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29. When an MNC finances in a currency that matches its long-term cash inflows using a relatively ____
maturity, the MNC is exposed to ____ risk.
a. short; interest rate
b. long; interest rate
c. short; exchange rate
d. none of the above
ANS: B PTS: 1

30. Some MNCs use a country's yield curve to compare annualized rates among debt maturities, so that they
can choose a maturity that has a relatively low rate.
a. True
b. False

ANS: T PTS: 1

31. As a(n) ____ to an interest rate swap, a financial institution simply arranges a swap between two parties.
a. ultraparty
b. broker
c. counterparty
d. none of the above
ANS: B PTS: 1

32. In general, the ____ rate payer in a plain vanilla swap believes interest rates are going to ____.
a. fixed; decline
b. floating; decline
c. floating; increase
d. none of the above
ANS: B PTS: 1

33. In a(n) ____ swap, the fixed rate payer has the right to terminate the swap.
a. callable
b. putable
c. amortizing
d. zero-coupon
ANS: A PTS: 1

34. In a(n) ____ swap, the notional value is increased over time.
a. amortizing
b. basis
c. zero-coupon
d. accretion
ANS: D PTS: 1

35. A ____ gives its owner the right to enter into a swap.
a. basis swap
b. swaption
c. callable swap
d. putable swap
ANS: B PTS: 1

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36. Because bonds denominated in foreign currencies rarely have lower yields, U.S. corporations rarely
consider issuing bonds denominated in those currencies.
a. True
b. False

ANS: F PTS: 1

37. The actual financing cost of a U.S. corporation issuing a bond denominated in euros is affected by the
euro's value relative to the U.S. dollar during the financing period.
a. True
b. False

ANS: T PTS: 1

38. A floating coupon rate is an advantage to the bond issuer during periods of increasing interest rates.
a. True
b. False

ANS: F PTS: 1

39. An MNC issuing pound-denominated bonds may be completely insulated from exchange rate risk
associated with the bond if its foreign subsidiary makes the coupon and principal payments of the bond
with its pound receivables.
a. True
b. False

ANS: T PTS: 1

40. If an MNC uses a long-term forward contract to hedge the exchange rate risk associated with a bond
denominated in euros, it would sell euros forward.
a. True
b. False

ANS: F PTS: 1

41. Currency swaps, whereby two parties exchange currencies at a specified point in time for a specified
price, are often used by MNCs to hedge against interest rate risk.
a. True
b. False

ANS: F PTS: 1

42. A limitation of interest rate swaps is that there is a risk to each swap participant that the
counterparticipant could default on his payments.
a. True
b. False

ANS: T PTS: 1

43. Many MNCs simultaneously swap interest payments and currencies.

a. True
b. False

ANS: T PTS: 1

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44. A parallel loan represents simultaneous loans provided by two parties with an agreement to repay at a
specified point in the future.
a. True
b. False

ANS: T PTS: 1

45. Since yield curves are identical across countries, MNCs rarely consider them when deciding on the
maturity of bonds denominated in a foreign currency.
a. True
b. False

ANS: F PTS: 1

46. Because bonds denominated in foreign currencies rarely have lower yields, U.S. corporations rarely
consider issuing bonds denominated in those currencies.
a. True
b. False

ANS: F PTS: 1

47. If the currency denominating a foreign bond depreciates against the firm's home currency over the
lifetime of the bond, the funds needed to make coupon payments will increase.
a. True
b. False

ANS: F PTS: 1

48. Even if the interest rate associated with a foreign country is higher than the domestic interest rate, the
financing costs of a foreign bond will always be lower than the financing rate of a domestic bond as long
as the currency depreciates over the lifetime of a bond.
a. True
b. False

ANS: F PTS: 1

49. If the currency of a foreign currency-denominated bond ____, the funds needed to make coupon
payments will ____.
a. appreciates; increase
b. depreciates; decrease
c. appreciates; decrease
d. depreciates; increase
e. A and B
ANS: E PTS: 1

50. Generally, the financing costs associated with a foreign currency-denominated bond will be ____ volatile
than the financing costs of a domestic bond because of ____.
a. more; exchange rate movements
b. less; exchange rate movements
c. less; global economic conditions
d. none of the above

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 ANS: A PTS: 1

51. ____ swaps are often used by companies to hedge against ____ rate risk.
a. Currency; interest
b. Interest; interest
c. Interest; exchange
d. Currency; exchange
e. B and D
ANS: E PTS: 1

52. ____ are commonly used to hedge interest rate risk.

a. Currency swaps
b. Parallel loans
c. Interest rate swaps
d. Forward contracts
e. None of the above
ANS: C PTS: 1

53. In a(n) ____ swap, the notional value is reduced over time.
a. accretion
b. amortizing
c. forward
d. zero-coupon
e. putable
ANS: B PTS: 1

54. A(n) ____ swap is entered into today, but the swap payments start at a specific future point in time.
a. accretion
b. amortizing
c. forward
d. zero-coupon
e. putable
ANS: C PTS: 1

55. A callable swap gives the ____ payer the right to terminate the swap; the MNC would exercise this right
if interest rates ____ substantially.
a. floating-rate; rise
b. floating-rate; fall
c. fixed-rate; rise
d. fixed-rate; fall
e. none of the above
ANS: D PTS: 1

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