Question 1

the text indicates, a firm's financial risk has identifiable market risk and diversifiable risk components.

Accepted Answer

A) True 
 B)False

Question 2

Miller and Modigliani had incorporated the costs of bankruptcy into their model, it is unlikely that they would have concluded that 100% debt financing is optimal.

Accepted Answer

A) True 
 B)False

Question 3

Provided a firm does not use an extreme amount of debt, financial leverage typically affects both EPS and EBIT, while operating leverage only affects EBIT.

Accepted Answer

A) True 
 B)False

Question 4

Other things held constant, which of the following events is most likely to encourage a firm to increase the amount of debt in its capital structure?

Accepted Answer

A)   The costs that would be incurred in the event of bankruptcy increase.
B)   Management believes that the firm's stock has become overvalued.
C)   Its degree of operating leverage increases.
D)   The corporate tax rate increases.
E)   Its sales become less stable over time.F) B) and C)
G) A) and E)

Question 5

Which of the following events is likely to encourage a company to raise its target debt ratio, other things held constant?

Accepted Answer

A)   An increase in the personal tax rate.
B)   An increase in the company's operating leverage.
C)   The Federal Reserve tightens interest rates in an effort to fight inflation.
D)   The company's stock price hits a new high.
E)   An increase in the corporate tax rate.F) C) and D)
G) None of the above

Question 6

world-famous discounter, Fernwood Booksellers, specializes in selling paperbacks for $7 each The variable cost per book is $5 At current annual sales of 200,000 books, the publisher is just breaking even It is estimated that if the authors' royalties are reduced, the variable cost per book will drop by $1 Assume authors' royalties are reduced and sales remain constant; how much more money can the publisher put into advertising (a fixed cost)  and still break even?

Accepted Answer

A)   $600,000
B)   $466,667
C)   $333,333
D)   $200,000
E)   None of the aboveF) A) and B)
G) A) and C)

Question 7

Which of the following statements is CORRECT?

Accepted Answer

A)   If a firm lowered its fixed costs while increasing its variable costs, holding total costs at the present level of sales constant, this would decrease its operating leverage.
B)   The debt ratio that maximizes EPS generally exceeds the debt ratio that maximizes share price.
C)   If a company were to issue debt and use the money to repurchase common stock, this action would have no impact on its basic earning power ratio. (Assume that the repurchase has no impact on the company's operating income.) 
D)   If changes in the bankruptcy code made bankruptcy less costly to corporations, this would likely reduce the average corporation's debt ratio.
E)   Increasing financial leverage is one way to increase a firm's basic earning power (BEP) .F) A) and B)
G) A) and E)

Question 8

a firm utilizes debt financing, an X% decline in earnings before interest and taxes (EBIT) will result in a decline in earnings per share that is larger than X.

Accepted Answer

A) True 
 B)False

Question 9

debt financing is used, which of the following is CORRECT?

Accepted Answer

A)   The percentage change in net operating income will be equal to a given percentage change in net income.
B)   The percentage change in net income relative to the percentage change in net operating income will depend on the interest rate charged on debt.
C)   The percentage change in net income will be greater than the percentage change in net operating income.
D)   The percentage change in sales will be greater than the percentage change in EBIT, which in turn will be greater than the percentage change in net income.
E)   The percentage change in net operating income will be greater than a given percentage change in net income.F) A) and D)
G) A) and B)

Question 10

Larsen Films's is analyzing its cost structureIts fixed operating costs are $470,000, its variable costs of $2.80 per unit produced, and its products sell for $4.00 per unit What is the company's breakeven point, i.e., at what unit sales volume would income equal costs?

Accepted Answer

A)   391,667
B)   411,250
C)   431,813
D)   453,403
E)   476,073F) B) and D)
G) B) and C)

Question 11

is possible that two firms could have identical financial and operating leverage, yet have different degrees of risk as measured by the variability of EPS.

Accepted Answer

A) True 
 B)False

Question 12

Which of the following statements best describes the optimal capital structure? The optimal capital structure is the mix of debt, equity, and preferred stock that maximizes the company's ______________.

Accepted Answer

A)   stock price.
B)   cost of equity.
C)   cost of debt.
D)   cost of preferred stock.
E)   earnings per share (EPS) .F) None of the above
G) All of the above

Question 13

Financial risk refers to the extra risk stockholders bear as a result of using debt as compared with the risk they would bear if no debt were used.

Accepted Answer

A) True 
 B)False

Question 14

graphical probability distribution of ROE for a firm that uses financial leverage would tend to be more peaked than the distribution if the firm used no leverage, other things held constant.

Accepted Answer

A) True 
 B)False

Question 15

Which of the following statements is CORRECT?

Accepted Answer

A)   A change in the personal tax rate should not affect firms' capital structure decisions.
B)   "Business risk" is differentiated from "financial risk" by the fact that financial risk reflects only the use of debt, while business risk reflects both the use of debt and such factors as sales variability, cost variability, and operating leverage.
C)   The optimal capital structure is the one that simultaneously (1)  maximizes the price of the firm's stock, (2)  minimizes its WACC, and (3)  maximizes its EPS.
D)   If changes in the bankruptcy code make bankruptcy less costly to corporations, then this would likely reduce the debt ratio of the average corporation.
E)   If corporate tax rates were decreased while other things were held constant, and if the Modigliani-Miller tax-adjusted tradeoff theory of capital structure were correct, this would tend to cause corporations to decrease their use of debt.F) C) and D)
G) B) and D)

Question 16

all-equity firm with 200,000 shares outstanding, Antwerther Inc., has $2,000,000 of EBIT, which is expected to remain constant in the future The company pays out all of its earnings, so earnings per share (EPS)  equal dividends per shares (DPS)  Its tax rate is 40%. The company is considering issuing $5,000,000 of 10.0% bonds and using the proceeds to repurchase stock The risk-free rate is 6.5%, the market risk premium is 5.0%, and the beta is currently 0.90, but the CFO believes beta would rise to 1.10 if the recapitalization occurs.
Assuming that the shares can be repurchased at the price that existed prior to the recapitalization, what would the price be following the recapitalization?

Accepted Answer

A)   $65.77
B)   $69.23
C)   $72.69
D)   $76.33
E)   $80.14F) A) and D)
G) C) and E)

Question 17

Which of the following statements is CORRECT?

Accepted Answer

A)   There is no reason to think that changes in the personal tax rate would affect firms' capital structure decisions.
B)   A firm with high business risk is more likely to increase its use of financial leverage than a firm with low business risk, assuming all else equal.
C)   If a firm's after-tax cost of equity exceeds its after-tax cost of debt, it can always reduce its WACC by increasing its use of debt.
D)   Suppose a firm has less than its optimal amount of debt. Increasing its use of debt to the point where it is at its optimal capital structure will decrease the costs of both debt and equity financing.
E)   In general, a firm with low operating leverage also has a small proportion of its total costs in the form of fixed costs.F) A) and C)
G) A) and B)

Question 18

following information has been presented to you about the Gibson Corporation. The company has no growth opportunities (g = 0) , so the company pays out all of its earnings as dividends (EPS = DPS)  The consultant believes that if the company moves to a capital structure financed with 20% debt and 80% equity (based on market values)  that the cost of equity will increase to 11% and that the pre-tax cost of debt will be 10% If the company makes this change, what would be the total market value (in millions)  of the firm?

Accepted Answer

A)   $3,200
B)   $3,600
C)   $4,000
D)   $4,200
E)   $4,800F) A) and E)
G) D) and E)

Question 19

firm's capital structure does not affect its calculated free cash flows, because FCF reflects only operating cash flows.

Accepted Answer

A) True 
 B)False

Question 20

Which of the following would increase the likelihood that a company would increase its debt ratio, other things held constant?

Accepted Answer

A)   An increase in the corporate tax rate.
B)   An increase in the personal tax rate.
C)   The Federal Reserve tightens interest rates in an effort to fight inflation.
D)   The company's stock price hits a new low.
E)   An increase in costs incurred when filing for bankruptcy.F) All of the above
G) A) and D)

Exam 15: Cap Structure

Financial risk refers to the extra risk stockholders bear as a result of using debt as compared with the risk they would bear if no debt were used.

Correct Answer
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Correct Answer
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Which of the following statements is CORRECT?

Correct Answer
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Miller and Modigliani had incorporated the costs of bankruptcy into their model, it is unlikely that they would have concluded that 100% debt financing is optimal.

Correct Answer
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Correct Answer
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Which of the following statements is CORRECT?

Correct Answer
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debt financing is used, which of the following is CORRECT?

Correct Answer
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Which of the following events is likely to encourage a company to raise its target debt ratio, other things held constant?

Correct Answer
verified

Which of the following would increase the likelihood that a company would increase its debt ratio, other things held constant?

Correct Answer
verified

Correct Answer
verified

firm's capital structure does not affect its calculated free cash flows, because FCF reflects only operating cash flows.

Correct Answer
verified

a firm utilizes debt financing, an X% decline in earnings before interest and taxes (EBIT) will result in a decline in earnings per share that is larger than X.

Correct Answer
verified

Which of the following statements best describes the optimal capital structure? The optimal capital structure is the mix of debt, equity, and preferred stock that maximizes the company's ______________.

Correct Answer
verified

Other things held constant, which of the following events is most likely to encourage a firm to increase the amount of debt in its capital structure?

Correct Answer
verified

Provided a firm does not use an extreme amount of debt, financial leverage typically affects both EPS and EBIT, while operating leverage only affects EBIT.

Correct Answer
verified

Which of the following statements is CORRECT?

Correct Answer
verified

the text indicates, a firm's financial risk has identifiable market risk and diversifiable risk components.

Correct Answer
verified

Larsen Films's is analyzing its cost structureIts fixed operating costs are $470,000, its variable costs of $2.80 per unit produced, and its products sell for $4.00 per unit What is the company's breakeven point, i.e., at what unit sales volume would income equal costs?

Correct Answer
verified

is possible that two firms could have identical financial and operating leverage, yet have different degrees of risk as measured by the variability of EPS.

Correct Answer
verified

graphical probability distribution of ROE for a firm that uses financial leverage would tend to be more peaked than the distribution if the firm used no leverage, other things held constant.

Correct Answer
verified

Exam 15: Cap Structure

Financial risk refers to the extra risk stockholders bear as a result of using debt as compared with the risk they would bear if no debt were used.

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Which of the following statements is CORRECT?

Correct AnswerverifiedShow Answer

Miller and Modigliani had incorporated the costs of bankruptcy into their model, it is unlikely that they would have concluded that 100% debt financing is optimal.

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Which of the following statements is CORRECT?

Correct AnswerverifiedShow Answer

debt financing is used, which of the following is CORRECT?

Correct AnswerverifiedShow Answer

Which of the following events is likely to encourage a company to raise its target debt ratio, other things held constant?

Correct AnswerverifiedShow Answer

Which of the following would increase the likelihood that a company would increase its debt ratio, other things held constant?

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

firm's capital structure does not affect its calculated free cash flows, because FCF reflects only operating cash flows.

Correct AnswerverifiedShow Answer

a firm utilizes debt financing, an X% decline in earnings before interest and taxes (EBIT) will result in a decline in earnings per share that is larger than X.

Correct AnswerverifiedShow Answer

Which of the following statements best describes the optimal capital structure? The optimal capital structure is the mix of debt, equity, and preferred stock that maximizes the company's ______________.

Correct AnswerverifiedShow Answer

Other things held constant, which of the following events is most likely to encourage a firm to increase the amount of debt in its capital structure?

Correct AnswerverifiedShow Answer

Provided a firm does not use an extreme amount of debt, financial leverage typically affects both EPS and EBIT, while operating leverage only affects EBIT.

Correct AnswerverifiedShow Answer

Which of the following statements is CORRECT?

Correct AnswerverifiedShow Answer

the text indicates, a firm's financial risk has identifiable market risk and diversifiable risk components.

Correct AnswerverifiedShow Answer

Larsen Films's is analyzing its cost structureIts fixed operating costs are $470,000, its variable costs of $2.80 per unit produced, and its products sell for $4.00 per unit What is the company's breakeven point, i.e., at what unit sales volume would income equal costs?

Correct AnswerverifiedShow Answer

is possible that two firms could have identical financial and operating leverage, yet have different degrees of risk as measured by the variability of EPS.

Correct AnswerverifiedShow Answer

graphical probability distribution of ROE for a firm that uses financial leverage would tend to be more peaked than the distribution if the firm used no leverage, other things held constant.

Correct AnswerverifiedShow Answer

Correct Answer
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