Fundamentals of Financial Management: Concise 11th Edition by Eugene F. Brigham test bank

b. 
Relative to proprietorships, corporations generally face fewer regulations, and they also find it easier to raise capital.

 
c. 
There is no good reason to expect a firm's stockholders and bondholders to react differently to the types of assets in which it invests.

 
d. 
Stockholders should generally be happier than bondholders to have managers invest in risky projects with high potential returns as opposed to safe projects with lower expected returns.

 
e. 
Stockholders in general would be better off if managers never disclosed favorable events and therefore caused the price of the firm's stock to sell at a price below its intrinsic value.

 
ANSWER:  
d


 
62. Which of the following statements is CORRECT?
 
a. 
Because bankruptcy requires that corporate bondholders be paid in full before stockholders receive anything, bondholders generally prefer to see corporate managers invest in high risk/high return projects rather than low risk/low return projects.

 
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 fail and drive the firm into bankruptcy. Therefore, bondholders generally prefer to see corporate managers invest in low risk/low return projects rather than high risk/high return projects.

 
c. 
One advantage of operating a business as a corporation is that stockholders can deduct their pro rata share of the taxes the firm pays, thereby eliminating the double taxation investors would face in a partnership.

 
d. 
One drawback of forming a corporation is that you lose the limited liability that you would otherwise receive as a proprietor.

 
e. 
Potential conflicts between stockholders and bondholders are increased if a firm's bonds are convertible into its common stock.

 
ANSWER:  
b


 
63. Which of the following statements is CORRECT?
 
a. 
Corporations face few regulations and more favorable tax treatment than do proprietorships and partnerships.

 
b. 
Managers who face the threat of hostile takeovers are less likely to pursue policies that maximize shareholder value compared to managers who do not face the threat of hostile takeovers.

 
c. 
Bond covenants are an effective way to resolve conflicts between shareholders and managers.

 
d. 
Because of their simplified organization, it is easier for proprietors and partnerships to raise large amounts of outside capital than it is for corporations.

 
e. 
One advantage to forming a corporation is that the owners of the firm have limited liability.

 
ANSWER:  
e


 
Multiple Choice: Problems
 

 
64. New Business is just being formed by 10 investors, each of whom will own 10% of the business. The firm is expected to earn $1,100,000 before taxes each year. The corporate tax rate is 34% and the personal tax rate for the firm's investors is 35%. The firm does not need to retain any earnings, so all of its after-tax income will be paid out as dividends to its investors. The investors will have to pay personal taxes on whatever they receive. How much additional spendable income will each investor have if the business is organized as a partnership rather than as a corporation?
 
a. 
$24,310

 
b. 
$18,719

 
c. 
$26,741

 
d. 
$26,498

 
e. 
$21,393

 
ANSWER:  
a


 
65. Assume that the corporate tax rate is 34% and the personal tax rate is 34%. 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?
 
a. 
21.99%

 
b. 
22.44%

 
c. 
19.07%

 
d. 
17.05%

 
e. 
23.79%

 
ANSWER:  
b