Question : [31].Other things held constant, the lower a firm's tax rate, : 1416420

 

^[31].Other things held constant, the lower a firm's tax rate, the more logical it is for the firm to use debt.

 

a.True

b.False

 

^[32].A firm's treasurer likes to be in a position to raise funds to support operations whenever such funds are needed, even in "bad times".  This is called "financial flexibility," and the lower the firm's debt ratio, the greater its financial flexibility, other things held constant.

 

a.True

b.False

 

^[33].If a firm utilizes debt financing, a 10% decline in earnings before interest and taxes (EBIT) will result in a decline in earnings per share that is larger than 10%, and the higher the debt ratio, the larger this difference will be.

 

a.True

b.False

 

 

Multiple Choice:  Conceptual

 

^[34].An increase in the debt ratio will generally have no effect on which of these items?

 

a.Business risk.

b.Total risk.

c.Financial risk.

d.Market risk.

e.The firm's beta.

 

^[35].Business risk is affected by a firm's operations.  Which of the following is NOT directly associated with (or does not directly contribute to) business risk?

 

a.Demand variability.

b.Sales price variability.

c.The extent to which operating costs are fixed.

d.The extent to which interest rates on the firm's debt fluctuate.

e.Input price variability.

^[36].Which of the following statements is CORRECT?

 

a.Since debt financing raises the firm's financial risk, increasing the target debt ratio will always increase the WACC.

b.Since debt financing is cheaper than equity financing, raising a company’s debt ratio will always reduce its WACC.

c.Increasing a company’s debt ratio will typically reduce the marginal costs of both debt and equity financing.  However, this action still may raise the company’s WACC.

d.Increasing a company’s debt ratio will typically increase the marginal costs of both debt and equity financing.  However, this action still may lower the company’s WACC.

e.Since a firm's beta coefficient is not affected by its use of financial leverage, leverage does not affect the cost of equity.

 

^[37].Which of the following statements is CORRECT?

 

a.The capital structure that maximizes expected EPS also maximizes the price per share of common stock.

b.The capital structure that minimizes the interest rate on debt also maximizes the expected EPS.

c.The capital structure that minimizes the required return on equity also maximizes the stock price.

d.The capital structure that minimizes the WACC also maximizes the price per share of common stock.

e.The capital structure that gives the firm the best bond rating also maximizes the stock price.

 

^[38].Based on the information below, what is the firm's optimal capital structure?

 

a.Debt = 40%; Equity = 60%; EPS = $2.95; Stock price = $26.50.

b.Debt = 50%; Equity = 50%; EPS = $3.05; Stock price = $28.90.

c.Debt = 60%; Equity = 40%; EPS = $3.18; Stock price = $31.20.

d.Debt = 80%; Equity = 20%; EPS = $3.42; Stock price = $30.40.

e.Debt = 70%; Equity = 30%; EPS = $3.31; Stock price = $30.00.

 

^[39].Which of the following statements best describes the optimal capital structure?

 

a.The optimal capital structure is the mix of debt, equity, and preferred stock that maximizes the company’s earnings per share (EPS).

b.The optimal capital structure is the mix of debt, equity, and preferred stock that maximizes the company’s stock price.

c.The optimal capital structure is the mix of debt, equity, and preferred stock that minimizes the company’s cost of equity.

d.The optimal capital structure is the mix of debt, equity, and preferred stock that minimizes the company’s cost of debt.

e.The optimal capital structure is the mix of debt, equity, and preferred stock that minimizes the company’s cost of preferred stock.

 

^[40].Which of the following events is likely to encourage a company to raise its target debt ratio, other things held constant?

 

a.An increase in the corporate tax rate.

b.An increase in the personal tax rate.

c.An increase in the company’s operating leverage.

d.The Federal Reserve tightens interest rates in an effort to fight inflation.

e.The company's stock price hits a new high.