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1 | |
Capital structure of the firm can be defined as: |
| | A) | The firm's mix of different securities |
| | B) | The firm's debt-equity ratio |
| | C) | The market imperfection that the firm's manager can exploit |
| | D) | All of the above |
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2 | |
Modigliani and Miller's Proposition I states that: |
| | A) | The market value of a firm's common stock is independent of its capital structure |
| | B) | The market value of a firm's debt is independent of its capital structure |
| | C) | The market value of any firm is independent of its capital structure |
| | D) | None of the above |
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3 | |
The law of conservation of value implies that: |
| | A) | The mix of senior and subordinated debt does not affect the value of the firm |
| | B) | The mix of convertible and non-convertible debt does not affect the value of the firm |
| | C) | The mix of common stock and preferred stock does not affect the value of the firm |
| | D) | All of the above |
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4 | |
For an all equity firm, |
| | A) | As earnings before interest and taxes (EBIT) increases, the earnings per share (EPS) increases by the same percent |
| | B) | As EBIT increases, the EPS increases by a larger percent |
| | C) | As EBIT increases, the EPS decreases |
| | D) | None of the above |
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5 | |
When comparing levered vs. unlevered capital structures, leverage works to increase EPS for high levels of operating income because: |
| | A) | Interest payments on the debt vary with EBIT levels |
| | B) | Interest payments on the debt stay fixed leaving less income to be distributed over less shares |
| | C) | Interest payments on the debt stay fixed, leaving more income to be distributed over less shares |
| | D) | Interest payments on the debt stay fixed, leaving less income to be distributed over more shares |
| | E) | Interest payments on the debt stay fixed, leaving more income to be distributed over more shares |
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6 | |
Earn and Learn Company is financed entirely by Common stock, which is priced to offer a 20% expected return. If the company repurchases 50% of the stock and substitutes an equal value of debt yielding 8%, what is the expected return on the common stock after refinancing? |
| | A) | 20% |
| | B) | 28% |
| | C) | 32% |
| | D) | None of the above |
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7 | |
The cost of capital for a firm, rWACC, in a tax-free environment is: |
| | A) | Equal to the expected EBIT divided by market value of the unlevered firm |
| | B) | Equal to rA, the rate of return for that business risk class |
| | C) | Equal to the overall rate of return required on the levered firm |
| | D) | All of the above |
| | E) | None of the above |
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8 | |
A firm has a debt-to-equity ratio of 0.50. Its cost of debt is 12%. Its overall cost of capital is 16%. What is its cost of equity if there are no taxes? |
| | A) | 13% |
| | B) | 16% |
| | C) | 15% |
| | D) | 18% |
| | E) | None of the above |
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9 | |
The beta of an all equity firm is 1.2 If the firm changes its capital structure to 50% debt and 50% equity using 8% debt financing, what will be the beta of the levered firm? The beta of debt is 0.2. (Assume no taxes.) |
| | A) | 1.2 |
| | B) | 2.4 |
| | C) | 2.2 |
| | D) | None of the above |
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10 | |
The Seifert Company is financed by $2 million (market value) in debt and $3 million (market value) in equity. The cost of debt is 10% and the cost of equity is 15%. Calculate the weighted average cost of capital. (Assume no taxes.) |
| | A) | 10% |
| | B) | 15% |
| | C) | 13% |
| | D) | None of the above |
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11 | |
Minimizing the weighted average cost of capital is the same as: |
| | A) | Maximizing the market value of the firm |
| | B) | Maximizing the market value of the firm only if MM's Proposition I holds |
| | C) | Maximizing the profits of the firm |
| | D) | None of the above |
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12 | |
Financial leverage increases the expected return and risk of the shareholder. |
| | A) | True |
| | B) | False |
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13 | |
Expected return on assets depends on several factors including the firm's capital structure. |
| | A) | True |
| | B) | False |
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14 | |
The beta of the firm is equal to the weighted average of the betas on its debt and equity. |
| | A) | True |
| | B) | False |
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15 | |
Since the expected rate of return on debt is less than the expected rate of return on equity, the weighted average cost of capital declines as more debt is issued. |
| | A) | True |
| | B) | False |
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