Chapter 16 homework

Jamison's has expected earnings before interest and taxes of $11,900. Its unlevered cost of capital is 12.8 percent and its tax rate is 21 percent. The company has debt with both a book and a face value of $12,500. This debt has a coupon rate of 7.6 percent and pays interest annually. What is the weighted average cost of capital? Select one: 12.48 percent 12.36 percent 12.87 percent 11.38 percent 12.09 percent

12.36 percent

Ignoring taxes, Pewter & Glass has a weighted average cost of capital of 10.82 percent. The company can borrow at 7.4 percent. What is the cost of equity if the debt-equity ratio is .58? Select one: 12.8% 13.15% 11.09% 15.85% 12.49%

12.8%

Which form of financing do companies prefer to use last according to the pecking-order theory? Select one: Regular debt Convertible debt Common stock Preferred stock Internal funds

Common stock

Which one of the following states that the value of a company is unrelated to the company's capital structure? Select one: Homemade leverage M&M Proposition I, no tax M&M Proposition II, no tax Pecking-order theory Static theory of capital structure

M&M Proposition I, no tax

The present value of the interest tax shield is expressed as: Select one: TCD/RA. VU + TCD. TCDRA. [EBIT(TCD)]/RA. TCD.

TCD

You have computed the break-even point between a levered and an unlevered capital structure. Ignore taxes. At the break-even level, the: Select one: company is earning just enough to pay for the cost of the debt. company's earnings before interest and taxes are equal to zero. earnings per share for the levered option are exactly double those of the unlevered option. advantages of leverage exceed the disadvantages of leverage. company has a debt-equity ratio of .50.

company is earning just enough to pay for the cost of the debt.

SLG Corp. is an all-equity firm with a weighted average cost of capital of 10.02 percent. The current market value of the equity is $13.4 million and the total tax rate is 22 percent. What is EBIT? Select one: $1,966,667 $2,021,194 $1,721,385 $2,095,385 $1,943,182

$1,721,385

Ornaments, Inc., is an all-equity firm with a total market value of $542,000 and 20,700 shares of stock outstanding. Management believes the earnings before interest and taxes (EBIT) will be $76,400 if the economy is normal. If there is a recession, EBIT will be 20 percent lower, and if there is a boom, EBIT will be 30 percent higher. The tax rate is 35 percent. What is the EPS in a recession? Select one: $1.92 $1.68 $2.40 $3.12 $2.88

$1.92

D. L. Tuckers has $57,000 of debt outstanding that is selling at par and has a coupon rate of 7.15 percent. The tax rate is 21 percent. What is the present value of the tax shield? Select one: $11,647 $12,791 $13,106 $12,200 $11,970

$11,970

Georga's Restaurants has 7,000 bonds outstanding with a face value of $1,000 each, a market price of $982, and a coupon rate of 6.95 percent. The interest is paid semiannually. What is the amount of the annual interest tax shield if the tax rate is 23 percent? Select one: $111,895 $113,323 $107,750 $110,420 $113,006

$111,895

Lamont Corp. is debt-free and has a weighted average cost of capital of 12.7 percent. The current market value of the equity is $2.8 million and there are no taxes. According to M&M Proposition I, what will be the value of the company if it changes to a debt-equity ratio of .85? Select one: $18,110,236 $1,955,000 $2,800,000 $2,705,882 $2,300,000

$2,800,000

Hanover Tech is currently an all-equity company that has 145,000 shares of stock outstanding with a market price of $22 a share. The current cost of equity is 13.9 percent and the tax rate is 21 percent. The company is considering adding $1.5 million of debt with a coupon rate of 7.5 percent to its capital structure. The debt will be sold at par value. What is the levered value of the equity? Select one: $2.209 million $2.005 million $2.312 million $2.012 million $2.108 million

$2.005 million

An unlevered company has a cost of capital of 14.6 percent and earnings before interest and taxes of $240,090. A levered company with the same operations and assets has a face value of debt of $85,000 with a coupon rate of 7.5 percent that sells at par. The applicable tax rate is 22 percent. What is the value of the levered company? Select one: a. $1,085,338 b. $1,398,257 c. $1,402,509 d. $1,301,373 e. $1,001,010

$1,301,373

L.A. Clothing has expected earnings before interest and taxes of $63,300, an unlevered cost of capital of 14.7 percent, and a combined tax rate of 23 percent. The company also has $11,000 of debt that carries a coupon rate of 7 percent. The debt is selling at par value. What is the value of this company? Select one: $342,579 $273,333 $284,108 $334,101 $305,476

$334,101

The June Bug has a $565,000 bond issue outstanding. These bonds have a coupon rate of 6.65 percent, pay interest semiannually, and sell at 98.7 percent of face value. The tax rate is 21 percent. What is the amount of the annual interest tax shield? Select one: $7,573 $6,907 $8,333 $7,890 $8,250

$7,890

Katlin Markets is debating between a levered and an unlevered capital structure. The all-equity capital structure would consist of 60,000 shares of stock. The debt and equity option would consist of 45,000 shares of stock plus $250,000 of debt with an interest rate of 7.35 percent. What is the break-even level of earnings before interest and taxes between these two options? Ignore taxes. Select one: $50,500 $73,500 $81,400 $66,667 $72,500

$73,500

The Corner Bakery has a debt-equity ratio of .53. The required return on assets is 13.5 percent and its cost of equity is 15.08 percent. What is the pretax cost of debt based on M&M Proposition II with no taxes? Select one: 8.78 percent 10.52 percent 9.16 percent 7.56 percent 8.40 percent

10.52 percent

ABC and XYZ are identical firms in all respects except for their capital structures. ABC is all-equity financed with $530,000 in stock. XYZ has the same total value but uses both stock and perpetual debt; its stock is worth $310,000 and the interest rate on its debt is 7.9 percent. Both firms expect EBIT to be $62,222. Ignore taxes. The cost of equity for ABC is _____ percent and for XYZ it is ______ percent. Select one: 11.74; 9.82 11.74; 12.48 11.74; 14.47 12.09; 9.82 12.09; 12.48

11.74; 14.47

KN Stitches has debt of $26,000, a leveraged value of $78,400, a pretax cost of debt of 7.05 percent, a cost of equity of 15.3 percent, and a tax rate of 21 percent. What is the weighted average cost of capital? Select one: 11.47 percent 12.12 percent 11.69 percent 12.07 percent 12.02 percent

12.07 percent

Lamey Co. has an unlevered cost of capital of 12.3 percent, a total tax rate of 25 percent, and expected earnings before interest and taxes of $32,840. The company has $60,000 in bonds outstanding that sell at par and have a coupon rate of 7.2 percent. What is the cost of equity? Select one: 13.78 percent 13.36 percent 13.94 percent 14.07 percent 14.29 percent

13.78 percent

Bruce & Co. expects its EBIT to be $165,000 every year forever. The company currently has no debt but can borrow at 8.6 percent while its cost of equity is 14.7 percent. The tax rate is 21 percent. The company is planning to borrow $55,000 and use the loan proceeds to repurchase shares. What will be the WACC after recapitalization? Select one: 14.57 percent 15.07 percent 14.51 percent 14.11 percent 14.58 percent

14.51 percent

Home Decor has a pretax cost of debt is 6.8 percent and a tax rate of 22 percent. What is the cost of equity if the debt-equity ratio is .65? WACC is 12.05% Select one: 16.89 percent 17.07 percent 14.70 percent 15.69 percent 16.44 percent

16.44 percent

Southwest Sands currently has 22,000 shares of stock outstanding. It is considering issuing $128,000 of debt at an interest rate of 7.5 percent. The break-even level of EBIT between these two capital structure options is $74,000. How many shares of stock will be repurchased if the company undergoes the recapitalization? Ignore taxes. Select one: 2,711.35 shares 2,854.05 shares 2,242.47 shares 3,091.89 shares 2,446.33 shares

2,854.05 shares

The Greenbriar is an all-equity firm with a total market value of $599,000 and 23,800 shares of stock outstanding. Management is considering issuing $217,000 of debt at an interest rate of 10 percent and using the proceeds on a stock repurchase. Ignore taxes. How many shares will the firm repurchase if it issues the debt securities? Select one: 10,231 shares 9,379 shares 59,900 shares 8,441 shares 8,622 shares

8,622 shares

Which one of the following makes the capital structure of a company irrelevant? Select one: Taxes Interest tax shield 100 percent dividend payout ratio Debt-equity ratio that is greater than 0 but less than 1 Homemade leverage

Homemade leverage

Westover Mills reduced its taxes last year by $210 by increasing its interest expense by $1,000. Which one of the following terms is used to describe this tax savings? Select one: Interest tax shield Interest credit Homemade leverage shield Current tax yield Tax-loss interest

Interest tax shield

The concept of homemade leverage is most associated with: Select one: M&M Proposition I with no tax. M&M Proposition II with no tax. M&M Proposition I with tax. M&M Proposition II with tax. the static theory proposition.

M&M Proposition I with no tax.

Which one of the following statements is correct in relation to M&M Proposition II, without taxes? Select one: The cost of equity remains constant as the debt-equity ratio increases. The cost of equity is inversely related to the debt-equity ratio. The required return on assets is equal to the weighted average cost of capital. Financial risk determines the return on assets. Financial risk is unaffected by the debt-equity ratio.

The required return on assets is equal to the weighted average cost of capital.

The optimal capital structure has been achieved when the: Select one: debt-equity ratio is equal to 1. weight of equity is equal to the weight of debt. cost of equity is maximized given a pretax cost of debt. debt-equity ratio is such that the cost of debt exceeds the cost of equity. debt-equity ratio results in the lowest possible weighted average cost of capital.

debt-equity ratio results in the lowest possible weighted average cost of capital.

M&M Proposition II with taxes: Select one: has the same general implications as M&M Proposition II without taxes. states that capital structure is irrelevant to shareholders. supports the argument that business risk is determined by the capital structure decision. supports the argument that the cost of equity decreases as the debt-equity ratio increases. concludes that the capital structure decision is irrelevant to the value of a firm.

has the same general implications as M&M Proposition II without taxes.

The costs incurred by a business in an effort to avoid bankruptcy are classified as _____ costs. Select one: flotation direct bankruptcy indirect bankruptcy financial solvency capital structure

indirect bankruptcy

A firm should select the capital structure that: Select one: produces the highest cost of capital. maximizes the value of the firm. minimizes taxes. is fully unlevered. equates the value of debt with the value of equity.

maximizes the value of the firm.

The basic lesson of M&M theory is that the value of a company is dependent upon: Select one: the company's capital structure. the total cash flows of that company. minimizing the marketed claims. the amount of the company's marketed claims. size of the stockholders' claims.

the total cash flows of that company.

M&M Proposition I with taxes is based on the concept that: Select one: the optimal capital structure is the one that is totally financed with equity. capital structure is irrelevant because investors and companies have differing tax rates. WACC is unaffected by a change in the company's capital structure. the value of a taxable company increases as the level of debt increases. the cost of equity increases as the debt-equity ratio increases.

the value of a taxable company increases as the level of debt increases.

If a company has the optimal amount of debt, then the: Select one: direct financial distress costs must equal the present value of the interest tax shield. value of the levered company will exceed the value of the unlevered company. company has no financial distress costs. Value of the firm is equal to VL + TCD. debt-equity ratio is equal to 1.

value of the levered company will exceed the value of the unlevered company.