Finance Chapter 13
Is the joint filing of both a bankruptcy filing and a creditor-approved reorganization plan
A Prepack:
A firms value and its weighted average cost of capital are inversely related
Assume both corporate taxes and financial distress costs apply to a firm. Given this, the static theory of capital structure illustrates that:
The unlevered firm will have higher EPS at relatively low levels of EBIT
Assume you are comparing two firms that are identical in every aspect, except one is levered and one is unlevered. What statement is correct regarding these two firms?
Reorganization
Greenwood Motels has filed a petition for a bankruptcy but hopes to continue its operations both during and after the bankruptcy process. What term best applies to this situation?
Absolute priority rule
In the process of liquidation, some types of claims receive preference over the claims. What determines which type of claim is paid first?
Cost of equity increases as a firm increases it debt-equity ratio
M&M Proposition II, without taxes, states that the:
Interest tax shield
Paying interest reduces the taxes owed by a firm. What term applies to this relationship?
Reduce the amount of the loan payments so peterboro can pay timely
Peterboro recently defaulted on a bank loan. To avoid a bankruptcy proceeding, the bank agreed to a composition. This composition would do what?
Sell some shares and loan out the sale proceeds
T.L.C. Enterprises just revised its capital structure from a debt-equity ratio of .30 to a debt-equity ratio of .45. The firms shareholders who prefer the old capital structure should:
Debt-equity ratio
The level of financial risk to which a firm is exposed is dependent upon the firms:
Is fixed in terms of its assets
The static theory of capital structure assumes a firm:
Homemade leverage
The use of borrowing by an individual to adjust his or her overall exposure to financial leverage is:
A legal proceeding for liquidating or reorganizing a business
What best defines legal bankruptcy?
WACC is minimized
What conditions exists at the point where a firm maximizes its values?
Legal and accounting fees related to a bankruptcy proceeding
What is a direct bankruptcy cost?
Right granted to creditors to file their own reorganization plan once a firm is in bankruptcy for 18 months
What is a key provision of the Bankruptcy Abuse Prevention and consumer Protection Act of 2005?
Incurring legal fees for the preparation of bankruptcy filings
What is an example of a direct bankruptcy cost?
The risk of equity depends on both the degree of financial leverage and the riskiness of the firms operations
What is an implication of M&M Proposition II, without taxes?
The costs of financial distress decrease the value of a firm
What is correct based on the static theory of capital structure?
Changes in the capital structure of a firm will generally change the firms earnings per share
What is correct concerning financial leverage
Financial leverage magnifies both profits and losses
What is correct concerning financial leverage?
A firm can file for chapter 11 bankruptcy even if the firm is solvent
What is correct?
Bankruptcy courts have "cram-down" powers
What is correct?
The levered value of a firm exceeds the firms unlevered value
What is correctly relate to M&M Proposition I, with taxes
WACC
What is minimized when the value of a firm is maximized?
A firms value is maximized when a firm operates at its optimal debt level
What is related to the static theory of capital structure is correct?
Financial risk
What is the equity risk arising from the capital structure selected by a firm?
Business risk
What is the equity risk arising from the daily operations of a firm?
Static theory of capital structure
What is the theory that a firm should borrow up to the point where the additional tax benefit from an extra dollar of debt equals the additional costs associated with financial distress from that additional debt?
The capital structure of a firm is totally irrelevant
What statement is the core principle of M&M proposition I, without taxes?
The value of a firm is independent of the firms capital structure
What statement matches M&M propositions I
M&M Proposition I with taxes
What supports the theory that the value of a firm increases as the firm's level of debt increases?
Indirect bankruptcy costs
What term applies to the costs incurred by a firm which is trying to avoid filing for bankruptcy?
Financial distress costs
What term is inclusive of both direct and indirect bankruptcy costs?
Liquidation
What term refers to the termination of a firm as a going concern?
Bankruptcy administrative expenses
What will generally receive the highest priority in a bankruptcy liquidation, assuming the absolute priority rule is followed?
Increase in the value of the unlevered firm
What will increase the value of a levered firm according to M&M Proposition I, with taxes?
When the firm has a negative net worth
When is a firm insolvent from an accounting perspective?
Whenever EBIT exceeds $428,000
You are comparing two possible capital structures for a firm. The first option is an all-equity firm. The second option involves the use of $3.8 million debt. The break-even point between these two financing options occurs when the earnings before interest aand taxes (EBIT) are $428,000. Given this, you know that leverage is beneficial to the firm:
M&M Proposition II
what states that a firms cost of equity capital is a positive linear function of the firms capital structure?
