FRL 301 CH 16
M&M Proposition 2 is the proposition that:
A firms cost of equity is. alinear function with a slope equal to (Ra - RD)
M&M Proposition 1 with tax supports the theory that:
A firms weighted average cost of capital decreases as the firms debt equity ratio increases
The unleavened cost of capital refers to the cost of capital for a:
All equity firm
Which one of the following statements is correct concerning the relationship between a levered and an unlevered capital structure? Assume there are no taxes.
At the break even point there are non advantage to debt.
Which one of the following statements is correct concerning the relationship between a levered and an unlevered capital structure? Assume there are no taxes.
At the break-even point, there is no advantage to debt.
Which one of the following is the legal proceeding under which an insolvent firm can be reorganized?
Bankruptcy
Which one of the following statements related to Chapter 7 bankruptcy is correct?
Bankruptcy, a trustee will assume ontrol of the fims assets until those assets can be liquidated
Which one of the following is the equity risk that is most related to daily operations of a firm?
Business Risk
The optimal capital structure has been achieved when the:
Debt-equity ratio results in the lowest possible weighted average cost of capital
Based on M&M Proposition 2 with taxes, the weighted average cost of capital:
Decreases as the debt equity ration increases
The explicit costs, such as legal and administrative expenses, associated with corporate default are classified as _______ costs.
Direct bankruptcy
By definition, which of the following costs are included in the term "financial distress costs"?
Direct bankruptcy costs, Indirect bankruptcy costs, direct costs related to being financially distressed, but not bankrupt, & indirect costs related to being financially distressed, but not bankrupt.
The static theory of capital structure advocates that the optimal capital structure for a firm:
Equates the tax savings from an additional dollar of debt to the increased bankruptcy costs related to that additional dollar of debt.
Which one of the following is the equity risk related to a firms capital structure policy?
Financial
Which of the following statements related too financial risk are correct?
Financial risk is the risk associated with the use of debt financing, as financial risk increases so too does the cost of equity, Financial risk is wholly dependent upon the financial policy of a firm.
You have computed the break even point between a levered and an unlevered capital:
Firm is just earning enough to pay for the cost of the debt
Which one of the following are correct according to pecking order theory?
Firms stockpile internally generated cash, There is an inverse relationship between a firms profit level and its debt level, a firms capital structure is dictated by its need for external financing
The business Risk of a firm:
Has a positive relationship with the firms cost of equity
M&M Proposition 2 with taxes:
Has the same general implications as the M&M Proposition 2 without taxes.
Which one of the following makes the capital structure of a firm irrelevant?
Homemade leverage
A firm may file for Chapter 11 bankruptcy:
In an attempt to gain a competitive advantage, using a prepack, while allowing the current management to continue running the firm.
The costs incurred by a business in an effort to avoid bankruptcy are classified as _______ costs.
Indirect bankruptcy
Butter and Jelly reduced its taxes last year by $350 by increasing its interest expenses by $1,000. Which of the following terms is used to describe this tax savings?
Interest tax shield
Which form of financing do firms prefer to use first according to the pecking order theory?
Internal funds
A firm is technically insolvent when:
It is unable to meet its financial obligations
A business firm ceases to exist as a going concern as a result of which one of the following?
Liquidation
Which one of the following has the greatest tendency to increase the percentage of debt included in the optimal capital structure of a firm?
Low probabilities of financial distress
THE CONCEPT OF HOMEMADE LEVERAGE IS MOST ASSOCIATED WITH
M&M PROPOSITION 1 WITH NO TAX
Which one of the following states that the value of a firm is unrelated to the firms capital structure?
M&M Proposition 1
Which one of the following states that a firms cost of equity capital is directly and proportionally related to the firms capital structure?
M&M Proposition 2
Which one of the following states that the value of a firm is unrelated to the firm's capital structure?
M&M Proposition I
The concept of homemade leverage is most associated with:
M&M Proposition I with no tax.
Which one of the following states that a firm's cost of equity capital is directly and proportionally related to the firm's capital structure?
M&M Proposition II
A firm should select the capital structure that
Maximizes the value of the firm
The capital structure that maximizes the value of a firm also:
Minimizes the cost of capital
Which one of the following id a direct bankruptcy cost
Paying an outside accountant fees to prepare bankruptcy reports
Which one of the following will generally have the highest priority when assets are distributed in a bankruptcy proceeding?
Payment of employee wages
Edwards Farm Products was unable to meets its financial obligations and was forced into using legal proceedings to restructure itself so that it could continue as a viable business. The Process this firm underwent is known as a:
Reorganization
AA Tours is comparing two capital structures to determine how to best finance its operations. The first option consists of all equity financing. The second option is based on a debt-equity ratio of 0.45. What should AA Tours do if its expected earnings before interest and taxes (EBIT) are less than the break-even level? Assume there are no taxes.
Select the unlevered option since the expected EBIT is less than the break even level
Jessie invested in Quattro stock when the firm was unleavened. Since Quattro has changed its capital structure and now has a debt equity ratio of 3.0. to Unilever her position, Jessica needs to:
Sell some shares of Quattro stock and loan out the sale proceeds
The interest tax shield has no value when a firm has a
Tax rate of zero, zero debt, zero leverage
Homemade leverage is:
The borrowing or lending of money by individual shareholders as a means of adjusting their level of financial leverage.
M&M Proposition I with no tax supports the argument that:
The debt equity ratio of a firm is completely irrelevant
The interest tax shield is a key reason why:
The net cost of debt to a firm is generally less than the cost of equity
Which of the following statements are correct in relation to M&M Proposition 2 with no taxes?tc X
The required return on assets is equal to the weighted average cost of capital and financial risk is determined by the debt equity ratio
The proposition that a firm borrows up to the point where the marginal benefit of the interest tax shield derived from its increased debt is just equal to the marginal expense of the resulting increase in financial distress costs is called:
The static theory of capital structure
The basic lesson of M&M theory is that the value of a firm is dependent upon:
The total cash flow of the firm
M&M Proposition 1 with taxes is based on the concept that:
The value of a firm increases as the firms debt increases because of the interest tax shield.
Which one of the following statements related to Chapter 7 bankruptcy is correct?
Under a Chapter 7 bankruptcy, a trustee will assume control of the firm's assets until those assets can be liquidated.
Corporation in the U.S. tend to:
Underutilize debt
If a firm has the optimal amount of deb, then the:
Value of the levered firm will exceed the value of the firm if it were unlevered
In general, the capital structures used by U.S. firms
Vary significantly across industries
The value of a firm is maximized when the
Weighted average cost of capital is minimized
The absolute priority rule determines:
Which parties receive payment first Ina bankruptcy proceeding
The optimal capital structure
Will vary over time as taxes and market conditions change
&M Proposition II is the proposition that:
a firm's cost of equity is a linear function with a slope equal to (RA - RD).
M&M Proposition I with tax supports the theory that:
a firm's weighted average cost of capital decreases as the firm's debt-equity ratio increases.
The unlevered cost of capital refers to the cost of capital for a(n):
all-equity firm
Which one of the following is the legal proceeding under which an insolvent firm can be reorganized?
bankruptcy
Which one of the following is the equity risk that is most related to the daily operations of a firm?
business risk
The optimal capital structure has been achieved when the:
debt-equity ratio results in the lowest possible weighted average cost of capital.
Based on M&M Proposition II with taxes, the weighted average cost of capital:
decreases as the debt-equity ratio increases.
The explicit costs, such as legal and administrative expenses, associated with corporate default are classified as _____ costs.
direct bankruptcy
The static theory of capital structure advocates that the optimal capital structure for a firm:
equates the tax savings from an additional dollar of debt to the increased bankruptcy costs related to that additional dollar of debt.
Which one of the following is the equity risk related to a firm's capital structure policy?
financial
You have computed the break-even point between a levered and an unlevered capital structure. Assume there are no taxes. At the break-even level, the:
firm is just earning enough to pay for the cost of the debt.
The business risk of a firm:
has a positive relationship with the firm's cost of equity.
M&M Proposition II with taxes:
has the same general implications as M&M Proposition II without taxes.
Which one of the following makes the capital structure of a firm irrelevant?
homemade leverage
The costs incurred by a business in an effort to avoid bankruptcy are classified as _____ costs.
indirect bankruptcy
Butter & Jelly reduced its taxes last year by $350 by increasing its interest expense by $1,000. Which of the following terms is used to describe this tax savings?
interest tax shield
Which form of financing do firms prefer to use first according to the pecking-order theory?
internal funds
A firm is technically insolvent when:
it is unable to meet its financial obligations.
A business firm ceases to exist as a going concern as a result of which one of the following?
liquidation
Which one of the following has the greatest tendency to increase the percentage of debt included in the optimal capital structure of a firm?
low probabilities of financial distress
The capital structure that maximizes the value of a firm also:
maximizes the cost of capital
A firm should select the capital structure that:
maximizes the value of the firm
Which one of the following is a direct bankruptcy cost?
paying an outside accountant fees to prepare bankruptcy reports.
Which one of the following will generally have the highest priority when assets are distributed in a bankruptcy proceeding?
payment of employee wages
The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005:
permits key employee retention plans only if an employee has another job offer.
Edwards Farm Products was unable to meet its financial obligations and was forced into using legal proceedings to restructure itself so that it could continue as a viable business. The process this firm underwent is known as a:
reorganization
AA Tours is comparing two capital structures to determine how to best finance its operations. The first option consists of all equity financing. The second option is based on a debt-equity ratio of 0.45. What should AA Tours do if its expected earnings before interest and taxes (EBIT) are less than the break-even level? Assume there are no taxes.
select the unlevered option since the expected EBIT is less than the break-even level
Jessica invested in Quantro stock when the firm was unlevered. Since then, Quantro has changed its capital structure and now has a debt-equity ratio of 0.30. To unlever her position, Jessica needs to:
sell some shares of Quantro stock and loan out the sale proceeds.
Homemade leverage is:
the borrowing or lending of money by individual shareholders as a means of adjusting their level of financial leverage.
M&M Proposition I with no tax supports the argument that:
the debt-equity ratio of a firm is completely irrelevant.
The interest tax shield is a key reason why:
the net cost of debt to a firm is generally less than the cost of equity.
The proposition that a firm borrows up to the point where the marginal benefit of the interest tax shield derived from increased debt is just equal to the marginal expense of the resulting increase in financial distress costs is called:
the static theory of capital structure.
The basic lesson of M&M Theory is that the value of a firm is dependent upon:
the total cash flow of the firm.
M&M Proposition I with taxes is based on the concept that:
the value of a firm increases as the firm's debt increases because of the interest tax shield.
Bankruptcy:
transfers value from shareholders to bondholders.
Corporations in the U.S. tend to:
underutilize debt.
If a firm has the optimal amount of debt, then the:
value of the levered firm will exceed the value of the firm if it were unlevered.
In general, the capital structures used by U.S. firms:
vary significantly across industries.
The value of a firm is maximized when the:
weighted average cost of capital is minimized.
The absolute priority rule determines:
which parties receive payment first in a bankruptcy proceeding
The optimal capital structure:
will vary over time as taxes and market conditions change.
