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1) Stedsmart Ltd and Fignermo Ltd are alike with respect to financial and operating characteristics, except that Stedsmart Ltd has less publicly traded debt outstanding than Fignermo Ltd

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1) Stedsmart Ltd and Fignermo Ltd are alike with respect to financial and operating characteristics, except that Stedsmart Ltd has less publicly traded debt outstanding than Fignermo Ltd. Stedsmart Ltd is most likely to have:

A. no market liquidity risk.

B. lower market liquidity risk.

C. higher market liquidity risk.

2. During bankruptcy proceedings of a firm, the priority of claims was not strictly adhered to. Which of the following is the least likely explanation for this outcome?

A. Senior creditors compromised.

B. The value of secured assets was less than the amount of the claims.

C. A judge’s order resulted in actual claims not adhering to strict priority of claims.

3. A fixed income analyst is least likely to conduct an independent analysis of credit risk because credit rating agencies:

A. may at times mis-rate issues.

B. often lag the market in pricing credit risk.

C. cannot foresee future debt-financed acquisitions.

4. If goodwill makes up a large percentage of a company’s total assets, this most likely indicates that:

A. the company has low free cash flow before dividends.

B. there is a low likelihood that the market price of the company’s common stock is below book value.

C. a large percentage of the company’s assets are not of high quality.

5. In order to determine the capacity of a company, it would be most appropriate to analyze the:

A. company’s strategy.

B. growth prospects of the industry.

C. aggressiveness of the company’s accounting policies.

6. A credit analyst is evaluating the creditworthiness of three companies: a construction company, a travel and Tourism Company, and a beverage company. Both the construction and travel and tourism companies are cyclical, whereas the beverage company is noncyclical. The construction company has the highest debt level of the three companies. The highest credit risk is most likely exhibited by the:

A. Construction Company.

B. Beverage Company.

C. travel and Tourism Company.

7. Based on the information provided in Exhibit 1, the EBITDA interest coverage ratio of Adidas AG is closest to:

A. 7.91x.

B. 10.12x.

C. 12.99x.

EXHIBIT 1 Adidas AG Excerpt from Consolidated Income Statement in a given year (€ in million)

Gross profit	5,730
Royalty and commission income	100
Other operating income	110
Other operating expenses	5,046
Operating profit	894
Interest Income	25
Interest expense	113
Income before texes	806
Income taxes	238
Net income	568

 

Additional information:

Depreciation and amortization: €249 million

8. The following information is from the annual report of Adidas AG for December 2010:

• Depreciation and amortization: €249 million

• Total assets: €10,618 million

• Total debt: €1,613 million

• Shareholders’ equity: €4,616 million

The debt/capital ratio of Adidas AG is closest to:

A. 15.19%.

B. 25.90%.

C. 34.94%.

9. Funds from operations (FFO) of Pay Handle Ltd increased in 2011. In 2011 the total debt of the company remained unchanged, while additional common shares were issued. Pay Handle Ltd’s ability to service its debt in 2011, as compared to 2010, most likely:

A. improved.

B. worsened.

C. remained the same.

10. Based on the information in Exhibit 2, Grupa Zywiec SA’s credit risk is most likely:

A. lower than the industry.

B. higher than the industry.

C. the same as the industry.

EXHIBIT 2 European Food. Beverage, and Tobacco Industry and Grupa Zywiec SA Selected Financial Ratios for 2010

	Total debt/Total capital (%)	FFO/Total debt (%)	Return on capital (%)	Total debt/EBITDA (x)	EBITDA interest coverage (x)
Grupa Zywies SA	47.1	77.5	19.6	1.2	17.7
Industry Median	42.4	23.6	6.55	2.85	6.45

 

11. Based on the information in Exhibit 3, the credit rating of Davide Campari-Milano S.p.A. is most likely:

A. lower than Associated British Foods plc.

B. higher than Associated British Foods plc.

C. the same as Associated British Foods plc.

EXHIBIT 3 European Food. Beverage, and Tobacco Industry; Associated British Foods plc; and Davide Campari-Milano S.p.A. Selected Financial Ratios, 2010

Company	Total debt/Total capital (%)	FFO/Total debt   (%)	Return on capital   (%)	Total debt/EBITDA   (x)	EBITDA interest coverage (x)
Associated British Foods plc	0.2	84.3	0.1	1.0	13.9
Davide Campari-Milano S.p.A.	42.9	22.9	8.2	3.2	3.2
European Food, Beverage, and Tobacco Median	42.4	23.6	6.55	2.85	6.45

 

12. Credit risk of a corporate bond is best described as the:

A. risk that an issuer’s creditworthiness deteriorates.

B. probability that the issuer fails to make full and timely payments.

C. risk of loss resulting from the issuer failing to make full and timely payments.

13. The risk that the price at which investors can actually transact differs from the quoted price in the market is called:

A. spread risk.

B. credit migration risk.

C. market liquidity risk.

14. Loss severity is best described as the:

A. default probability multiplied by the loss given default.

B. portion of a bond’s value recovered by bondholders in the event of default.

C. portion of a bond’s value, including unpaid interest, an investor loses in the event of default.

15. The expected loss for a given debt instrument is estimated as the product of default probability and:

A. (1 + Recovery rate).

B. (1 − Recovery rate).

C. 1/(1 + Recovery rate).

16. A senior unsecured credit instrument holds a higher priority of claims than one ranked as:

A. mortgage debt.

B. second lien loan.

C. senior subordinated.

17. In a bankruptcy proceeding, when the absolute priority of claims is enforced:

A. senior subordinated creditors rank above second lien holders.

B. preferred equity shareholders rank above unsecured creditors.

C. creditors with a secured claim have the first right to the value of that specific property.

18. The process of moving credit ratings of different issues up or down from the issuer rating in response to different payment priorities is best described as:

A. notching.

B. structural subordination.

C. cross-default provisions.

19. Which type of security is most likely to have the same rating as the issuer?

A. Preferred stock

B. Senior secured bond

C. Senior unsecured bond

20. Which of the following corporate debt instruments has the highest seniority ranking?

A. Second lien

B. Senior unsecured

C. Senior subordinated

21. The notching adjustment for corporate bonds rated Aa2/AA is most likely:

A. larger than the notching adjustment for corporate bonds rated B2/B.

B. the same as the notching adjustment for corporate bonds rated B2/B.

C. smaller than the notching adjustment for corporate bonds rated B2/B.

22. Which of the following statements about credit ratings is most accurate?

A. Credit ratings can migrate over time.

B. Changes in bond credit ratings precede changes in bond prices.

C. Credit ratings are focused on expected loss rather than risk of default.

23. Which industry characteristic most likely has a positive effect on a company’s ability to service debt?

A. Low barriers to entry in the industry

B. High number of suppliers to the industry

C. Broadly dispersed market share among large number of companies in the industry

24. When determining the capacity of a borrower to service debt, a credit analyst should begin with an examination of:

A. industry structure.

B. industry fundamentals.

C. company fundamentals.

25. In credit analysis, capacity is best described as the:

A. quality of management.

B. ability of the borrower to make its debt payments on time.

C. quality and value of the assets supporting an issuer’s indebtedness.

Use the following Exhibit for Questions 26 and 27

EXHIBIT 4 Industrial Comparative ratio Analysis, Year 20XX

	EBITDA Margin (%)	Return on Capital (%)	EBIT/Interest Expense (x)	EBITDA/Interest Expense (x)	Debt/EBITDA (x)	Debt/Capital   (%)
Company A	25.1	25.0	15.9	19.6	1.6	35.2
Company B	29.6	36.3	58.2	62.4	0.5	15.9
Company C	21.8	16.6	8.9	12.4	2.5	46.3

 

 26. Based on only the leverage ratios in Exhibit 4, the company with the highest credit risk is:

A. Company A.

B. Company B.

C. Company C.

27. Based on only the coverage ratios in Exhibit 4, the company with the highest credit quality is:

A. Company A.

B. Company B.

C. Company C.

Use the following Exhibits for Questions 28 and 29

EXHIBIT 5             Consolidated Income Statement (£ millions)

	Company X	Company Y
Net revenues	50.7	83.7
Operating expenses	49.6	70.4
Operating Income	1.1	13.3
Interest income	0.0	0.0
Interest expense	0.6	0.8
Income before income taxes	0.5	12.5
Provision for income taxes	-0.2	-3.5
Net income	0.3	9.0

 

EXHIBIT 6 Consolidated Balance Sheets (£ millions)

	Company X	Company Y
ASSETS
Current assets	10.3	21.9
Property, plant, and equipment, net	3.5	20.1
Goodwill	8.3	85.0
Other assets	0.9	5.1
Total assets	23.0	132.1
LIABILTIES AND SHAREHOLDERS’ EQITY
Current liabilities
Accounts payable and accrued expenses	8.4	16.2
Short-term debt	0.5	8.7
Total current liabilities	8.9	24.9
Long-term debt	11.7	21.1
Other non-current liabilities	1.1	22.1
Total liabilities	21.7	68.1
Total shareholders’ equity	1.3	64.0
Total liabilities and shareholders’ equity	23.0	132.1

 

EXHIBIT 7 Consolidated Statements of Cash flow (£ millions)

	Company X	Company Y
CASH FLOWS FROM OPERATING ACTIVITIES
Net income	0.3	9.0
Depreciation	1.0	3.8
Goodwill impairment	2.0	1.6
Changes in working capital	0.0	-0.4
Net cash provided by operating activities	3.3	14.0
CASH FLOWS FROM INVESTING ACTIVITIES
Additions to property and equipment	-1.0	-4.0
Additions to marketable securities	-0.1	0.0
Proceeds from sale of property and equipment	0.2	2.9
Proceeds from sale of marketable securities	0.3	0.0
Net cash used in investing activities	-0.6	-1.1
CASH FLOWS FROM FINANCING ACTIVITIES
Repurchase of common stock	-1.5	-4.0
Dividends to shareholders	-0.3	-6.1
Change in short-term debt	0.0	-3.4
Additions to long-term debt	3.9	3.9
Reductions in long-term debt	-3.4	-2.5
Net cash – financing activities	-1.3	-12.1
NET INCREASE IN CASH AND CASH EQUIVALENTS	1.4	0.8

 

28. Based on Exhibits 5–7, in comparison to Company X, Company Y has a higher:

A. debt/capital ratio.

B. debt/EBITDA ratio.

C. free cash flow after dividends/debt ratio.

29. Based on Exhibits 5–7, in comparison to Company Y, Company X has greater:

A. leverage.

B. interest coverage.

C. operating profit margin.

30. The factor that most likely results in corporate credit spreads widening is:

A. an improving credit cycle.

B. weakening economic conditions.

C. a period of high demand for bonds.