Chapter 13 Leverage and capital structure

A corporation gains no value from an interest tax shield if which of the following are true?

1. corporate tax rates are zero 2. the corporation is an all-equity firm 3. the corporation has no debt

M&M Proposition I states if the assets and operations for two firms are the same, then

1. how the firms are financed is irrelevant 2. the value of the two firms is equal

A capital restructuring may include

1. issuing debt and repurchasing equity 2. issuing more debt 3. issuing more equity

Bankruptcy is very valuable because:

1. it can be used strategically to improve a firm's competitive position 2. payments to creditors cease pending the outcome of the bankruptcy process

The tax shield afforded by debt will be of the least use to firms with

1. losses carried forward 2. negative EBT

What are some examples of indirect financial distress costs?

1. lost reputation 2. lost sales

an optimal capital structure will

1. maximize the value of the firm 2. minimize the cost of capital

Which of the following are generally true about the cost of equity and the cost of debt?

1. the cost of debt is generally lower than the cost of equity 2. the cost of debt increase with leverage 3. the cost of equity may increase with leverage

Which of the following industries to have a lower leverage?

drugs, computers

____________ is the term that describes the capital structure when debt is used to finance assets

financial leverage

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

The tax deductibility of interest payment is?

good for the firm

Capital structure decisions are made _________ investment decisions.

independent of

Which of the following is true of the impact of financial leverage?

it magnifies gains and losses

How does the level of debt affect the weighted average cost of capital (WACC)?

the WACC initially falls and then rises as debt increases

MM Proposition II shows that

the cost of equity rises with leverage

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

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