Corporate Finance Final
Which answer is correct in order of priority of payment: 1) Payment to common shareholders. 2) Bankruptcy administrative expenses. 3)Consumer claims. 4)Wages, salaries, and commissions
2) 4) 3) 1)
Which one the followings is the operating cycle in order from first to last. 1. Sell the finished product, 2. Order inventory, and 3. Collect cash from the sale
2.1.3
Between the 1960's and the present time, current liabilities have risen from about 20% of total liabilities to almost _______ percent.
30
Receivables period equals ______ days divided by the receivables turnover.
365
nventory period equals ______ days divided by the inventory turnover.
365
Which of the following represents a use of cash?
Accounts receivable increases Repurchasing stock Paying off a loan
Which of the following are examples of cash disbursements?
Capital expenditures Payments of accounts payable Wages and taxes
A corporation gains no value from an interest tax shield if which of the following are true?
Corporate tax rates are zero. The corporation is an all-equity firm. The corporation has no debt.
What does a receivables turnover ratio of 57 mean?
Customers took, on average, 57 days to pay.
What does maturity hedging involve?
Financing fixed assets with long-term financing and inventories with short-term financing
Which of the following activities decrease cash?
Increasing fixed assets Decreasing equity
Bankruptcy is very valuable because
It can be used strategically to improve a firm's competitive position. Payments to creditors cease pending the outcome of the bankruptcy process. Answers: It can be used strategically to improve a firm's competitive position.
What is generally the most important component of direct bankruptcy costs?
Legal costs
Which of the following are direct costs of financial distress?
Legal fees Administrative expenses
Which of the following is not a characteristic of commercial paper?
Maturities of 1 year or more
Which of the following activities by a firm will increase cash?
Obtaining a loan Selling bonds Selling stock
Which activities are primary to short-term finance?
Operating activities Financing activities
Which of the following are shortage costs?
Order costs Safety reserve costs
The present value of the interest tax shield equals what?
TC x D
How does the level of debt affect the weighted average cost of capital (WACC)?
The WACC initially falls and then rises as debt increases.
According to MM Proposition I, the value of a firm is the same for debt financing as it is for equity financing because of which of the following?
The asset to be financed is the same MM demonstrated that debt financing is neither better nor worse than equity financing The asset to be financed is the same.
Which of the following will apply when a firm's debt levels are extremely high?
The benefits of debt financing may be more than offset by the costs of financial distress. The possibility of financial distress will become a chronic problem.
Which of the following are generally true about the cost of equity and the cost of debt?
The cost of equity may increase with leverage. The cost of debt is generally lower than the cost of equity. The cost of debt increases with leverage.
Which of the following statements are true regarding the effect of financial leverage and the firm's operating earnings (EBIT)?
The rate of return on assets is unaffected by leverage.
What is the expression for the value of a levered firm in the presence of corporate taxes?
Value of Levered Firm = Value of Unlevered Firm + Tax Benefit of Debt
An investor who invests in the stock of a levered firm rather than in an all-equity firm will require
a higher expected return
Although flexible short-term financial polices are more costly, they result in
a reduced probability of financial distress
A flexible short-term financing strategy implies:
a relatively large pool of marketable securities cash surpluses
A restrictive short-term financing strategy implies
a small investment in net working capital possible cash shortages
Current liabilities are firm obligations that will require cash payment within
a year
The ___ period is the time between the receipt of inventory and actually paying for that inventory.
accounts payable
The cash cycle is equal to the operating cycle minus the ______ period.
accounts payable
What is the primary duty as payables manager.
accounts payables
The operating cycle equals the sum of the inventory period and the ______ period.
accounts receivable
What is the primary duty as credit manager.
accounts receviable
Bankruptcy costs may exceed the tax shield benefits of ________
debt
The optimal level of debt in the presence of corporate taxes and bankruptcy costs occurs at the point at which the present value of distress costs _____ the present value of the tax shield benefits.
equals
Shortage costs are those that ______ when the level of investment in current assets is high.
fall
Based on MM Proposition I, even including taxes, capital structure does not matter to the firm.
false
Cash collections equals beginning cash times sales.
false
Current assets are cash and other assets that are expected to convert to cash within 1-5 years.
false
An optimal capital structure will
minimize the cost of capital maximize the value of the firm
The possibility of bankruptcy costs has a(n) ______ effect on the value of the firm.
negative
The value of a levered firm in MM Proposition I with corporate taxes equals the value of an all equity firm
plus the tax rate times the value of debt
Either stock-out or cash-out costs occur when a firm
runs out of inventory to sell runs out of available cash
Unsecured bank loans are:
short term
Ideally, short-term assets are financed with
short term liabilities
The financing of current assets is measured by the proportion of:
short-term debt and long-term debt used to finance current assets
It is possible for the present value of distress costs to exceed the present value of tax savings.
true
MM demonstrated that debt financing is neither better nor worse than equity financing.
true
Non-committed lines of credit...
are informal arrangements generally specify a maximum amount that can be borrowed
The costs of financial distress depend mostly on how easily the ownership of the firm's ________ can be transferred.
assets
The optimal balance of current ________ occurs where the sum of the carrying costs and the shortage costs is at a minimum.
assets
The fact that failure to meet debt obligations can result in bankruptcy is
bad for the firm
The gap between short-term cash inflows and outflows can be filled by ___.
borrowing maintaining a liquidity reserve
The equity risk that comes from the nature of a firm's operating activities is known as:
business risk
Short-term finance is concerned with current assets and current liabilities, whereas long-term finance is concerned with
capital budgeting dividend policy capital structure
The time between paying cash for inventory and receiving cash from selling a product is called the ______.
cash cycle
A committed line of credit is a more formal arrangement typically involving a
commitment fee
Ending accounts receivable equals starting accounts receivable plus ______ minus collections.
credit sales
Commercial paper is an example of a:
debt security
The cost of debt will begin to increase as the:
degree of leverage increases
Which costs of financial distress are easier to measure?
direct costs
Which two of the following are broad types of costs of financial distress?
direct costs, indirect costs
According to M&M Proposition I, a firm's capital structure choices:
do not affect the value of the firm
Direct costs are very difficult to measure and, thus, are often estimated.
false
Holding equity in an unlevered firm has no risk.
false
Other important sources of short-term financing for a company include short-term stocks.
false
The legal process of bankruptcy is typically quick and inexpensive.
false
An investor who buys the common stock of a levered firm is subject to more risk due to the addition of
financial risk
The equity risk that comes from the financial policy or capital structure decisions of the firm is known as:
financial risk
Uses of cash can involve increasing a(n) ______ account.
fixed asset non cash current asset
A short-term financial policy involving a higher proportion of long-term debt than short-term debt is classified as a(n) ______ policy.
flexible
The tax deductibility of interest payments is?
good for the firm
The value of a levered firm will be_______, Incorrect Unavailable than the value of an identical unlevered firm because the levered firm's taxes will be
greater lower
Equity carries risk thus an investor should expect a ________, Correct Unavailable return than that on less risky debt.
higher
An individual can duplicate a levered firm through a strategy called ______ leverage where the investor uses his own funds plus borrowed funds to buy stocks.
homemade
With ______ ______, an investor is able to replicate a corporation's capital structure by borrowing funds and using those funds along with their own money to buy the company's stock
homemade leverage
M&M Proposition I states if the assets and operations (left-hand side of the balance sheet) for two firms are the same, then
how the firms are financed is irrelevant the value of the two firms is equal
If the degree of leverage increases, the cost of debt will
increase
Which of the two types of costs of bankruptcy are more difficult to quantify?
indirect costs
With the flexible approach, the firm finances ________, while with the restrictive approach, the firm finances
internally, externally
The time it takes to acquire and sell inventory is called the ______ period.
inventory
For US corporations, current assets have fallen from 50% of total assets in the 1960s to 40% of total assets today primarily because of more efficient:
inventory management cash management
MM Proposition I does not work with corporate taxes because:
levered firms pay lower taxes than unlevered firms
The value of a levered firm will be greater than the value of an identical unlevered firm because the levered firm's taxes will be
lower
What decision has to be made when companies sell a product?
should credit be extended?
It is often in everyone's best interest to devise a "workout" strategy that avoids bankruptcy because:
the bankruptcy process can be long and expensive
MM Proposition II shows that
the cost of equity rises with leverage.
The two major elements of a firm's short-term financial policy are
the financing of current assets the size of the firm's investment in current assets
A beneficial rule to follow is to set the firm's capital structure so that ___.
the firm's value is maximized
The Static Theory of Capital Structure suggests employing debt to the point that its cost equals the cost of
the increased probability of bankruptcy
The tax savings attained by a firm from the tax deductibility of interest expense is called
the interest tax shield
Other important sources of short-term financing besides secured and unsecured borrowing for a company are:
trade credit commercial pape
The idea that a firm borrows to the point that the tax benefit of debt is exactly equal to the increased probability of financial distress is called the _________ theory of capital structure
trade-off
Current liabilities are obligations that are expected to require cash payment within one year.
true
Firm value is maximized when the WACC is minimized.
true
The net payments receivable equals the cash collections minus the cash disbursements.
true
The payables turnover equals the cost of goods sold divided by the average payables.
true
What decision has to be made when companies buy raw materials?
what is the desired level of inventory?