Ch16 Test Bank Docx Assessing Long-Term Debt, Equity, and

Finance, 5e (Cornett)

Chapter 16 Assessing Long-Term Debt, Equity, and Capital Structure

1) The mix of debt and equity that a firm uses to finance its operations is known as:

A) capital structure.

B) capital management.

C) separation structure.

D) break even.

2) If a firm changes their capital structure by immediately selling additional claims of one type of capital and using the proceeds to retire another kind of claim, they are using which type of capital structure change?

A) Active

B) Passive

C) Separation

D) Supportive

3) If a firm changes their capital structure by waiting until the firm requires additional capital to cover capital budgeting needs and then selling more of the type of claims they wish to increase, they are using which type of capital structure change?

A) Active

B) Passive

C) Separation

D) Supportive

4) Which of the following is NOT a factor for determining whether to use the active or passive approach to capital structure changes?

A) How much the firm faces in flotation costs under the active management approach

B) How much the firm faces in debt costs under the active management approach

C) How quickly the firm is growing

D) How strongly and how quickly they wish to change the capital structure

5) Another name for debt in the capital structure is:

A) active.

B) leverage.

C) passive.

D) long position.

6) Which of the following is NOT a feature of the "perfect world" in M&M's theorem for optimal capital structure?

A) No taxes

B) No chance of bankruptcy

C) Perfectly efficient markets

D) Asymmetric information sets for all participants

7) Which of the following is a feature of the "perfect world" in M&M's theorem for optimal capital structure?

A) Income taxes

B) The chance of bankruptcy

C) Perfectly efficient markets

D) Asymmetric information sets for all participants

8) In M&M's perfect world, their theorem's two main propositions are referred to as which of the following?

A) Active capital structure management

B) Passive capital structure management

C) Capital structure irrelevance assertion

D) Capital structure relevance assertion

9) Which of these is the assumption that decisions about which projects to fund are separate from the decisions about how to fund them?

A) Break-even principle

B) Capital structure principle

C) Separation principle

D) Long position principle

10) Which of the following is a true statement?

A) A firm's cost of debt increases with the use of equity in the capital structure.

B) A firm's cost of equity increases with the use of equity in the capital structure.

C) A firm's cost of equity increases with the use of debt in the capital structure.

D) A firm's cost of equity decreases with the use of debt in the capital structure.

11) Which of the following makes this a true statement? In this slightly more realistic world with corporate taxes, managers can:

A) minimize the firm's value by taking on as much debt as possible.

B) maximize the firm's value by taking on as much debt as possible.

C) maximize the firm's value by taking on as much equity as possible.

D) maximize the firm's value by financing only with debt.

12) What causes the change in optimal strategy when taxes are added back to the M&M theorem?

A) The fact that we have added taxation differentially

B) The fact that both dividends and interest are taxable to the receiver

C) The fact that it changes the effect that an increase in leverage has on the stockholders' expected returns

D) The fact that it changes the volatility of stockholders' expected returns

13) Which of the following is a true statement regarding Proposition I?

A) Vu in a world with taxes is going to be more than Vu in a world without taxes.

B) Vu in a world with taxes is going to be less than Vu in a world without taxes.

C) Vu in a world with taxes is going to be equal to Vu in a world without taxes.

D) Vu in a world with taxes cannot be compared to Vu in a world without taxes.

14) How can an investor leverage itself more than the firm?

A) By borrowing money and investing it in stock along with the money with which they started

B) By buying the firm's bonds

C) By buying the firm's preferred stock

D) Investors cannot leverage themselves more than the firm.

15) Which of the following is one of the most extreme examples of firm re-leveraging that occurs when someone uses a firm's debt capacity to buy out the majority of the firm's equity holders?

A) Debt buyout

B) Equity buyout

C) Leveraged buyout

D) Separation buyout

16) The level of EBIT at which EPS will be equal for two different capital structures is known as:

A) break-even EBIT.

B) break-even EPS.

C) break-even capital structures.

D) break-even financial structures.

17) Which of the following allows for two types of bankruptcy for which most businesses can file?

A) Securities Exchange Commission

B) Generally Accepted Accounting Principles

C) The Internal Revenue Service

D) The United States Bankruptcy Code

18) Which type of bankruptcy involves a business liquidating their assets?

A) Chapter 7

B) Chapter 11

C) Chapter 13

D) Chapter 9

19) Which type of bankruptcy involves an attempt to allow the firm to reorganize the business under court supervision?

A) Chapter 7

B) Chapter 11

C) Chapter 13

D) Chapter 9

20) Which of these is the rule under which claimants are paid in a Chapter 7 bankruptcy?

A) First come, first served

B) Absolute priority

C) Term structure priority

D) Date due priority

21) Which of the following is the condition in which a firm is near bankruptcy?

A) Passive capital structure

B) Active capital structure

C) Financial distress

D) Call position

22) A situation that arises when a firm's equity is close to worthless, and equity holders will prefer to invest in overly risky projects with a small chance of success rather than simply paying debt holders their regularly scheduled payments is known as a(n):

A) leverage problem.

B) overinvestment problem.

C) underinvestment problem.

D) long position.

23) Which of these is a situation that arises when a firm's equity is close to worthless, and equity holders will prefer to not invest in safe projects?

A) Leverage problem

B) Overinvestment problem

C) Underinvestment problem

D) Long position

24) Which of the following is a true statement?

A) Sectors of the U.S. economy that tend to have quite variable income streams also carry the highest D/E ratios.

B) Sectors of the U.S. economy that tend to have quite variable income streams also carry the lowest D/E ratios.

C) Conglomerates tend to have high, unstable income streams.

D) Utilities have variable income streams and carry low D/E ratios.

25) Suppose that a company's equity is currently selling for $22 per share and that there are 4 million shares outstanding and 30 thousand bonds outstanding, which are selling at 101 percent of par ($1,000). If the firm was considering an active change to their capital structure so that the firm would have a D/E of 0.9, which type of security (stocks or bonds) would they need to sell to accomplish this, and how much would they have to sell?

A) $25,736,842 in new debt

B) $10,434,060 in new debt

C) $10,434,060 in new equity

D) $25,742,080 in new equity

26) Suppose that a company's equity is currently selling for $19 per share and that there are 3 million shares outstanding and 10 thousand bonds outstanding, which are selling at 100 percent of par ($1,000). If the firm was considering an active change to their capital structure so that the firm would have a D/E of 0.5, which type of security (stocks or bonds) would they need to sell to accomplish this, and how much would they have to sell?

A) $12,333,333 in new debt

B) $1,755,400 in new debt

C) $12,328,000 in new equity

D) $1,755,400 in new equity

27) Suppose that a company's equity is currently selling for $45 per share and that there are 1 million shares outstanding. If the firm also has 7 thousand bonds outstanding, which are selling at 97 percent of par ($1,000), what are the firm's current capital structure weights for equity and debt respectively?

A) 50 percent, 50 percent

B) 86.89 percent, 13.11 percent

C) 12.50 percent, 87.50 percent

D) 31.69 percent, 68.31 percent

28) Suppose that a company's equity is currently selling for $30 per share and that there are 5 million shares outstanding. If the firm also has 20 thousand bonds outstanding, which are selling at 98 percent of par ($1,000), what are the firm's current capital structure weights for equity and debt respectively?

A) 50 percent, 50 percent

B) 88.44 percent, 11.56 percent

C) 99.60 percent, 0.40 percent

D) 88.23 percent, 11.77 percent

29) Suppose that a company's equity is currently selling for $20 per share and that there are 2 million shares outstanding. If the firm also has 8 thousand bonds outstanding, which are selling at 99 percent of par ($1,000), what are the firm's current capital structure weights for equity and debt respectively?

A) 50 percent, 50 percent

B) 16.81 percent, 83.19 percent

C) 83.47 percent, 16.53 percent

D) 83.33 percent, 16.67 percent

30) Suppose that a company's equity is currently selling for $55 per share and that there are 1 million shares outstanding. If the firm also has 50 thousand bonds outstanding, which are selling at 95 percent of par ($1,000), what are the firm's current capital structure weights for equity and debt respectively?

A) 50 percent, 50 percent

B) 53.66 percent, 46.34 percent

C) 52.38 percent, 47.62 percent

D) 36.67 percent, 63.33 percent

31) Your company doesn't face any taxes and has $500 million in assets, currently financed entirely with equity. Equity is worth $40 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities as shown as follows:

The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay a 9 percent yield on perpetual debt in either event. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A) 5.07

B) 9.78

C) 25.73

D) 95.68

32) Your company doesn't face any taxes and has $200 million in assets, currently financed entirely with equity. Equity is worth $25 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 40 percent debt capital structure, and has determined that they would have to pay a 7 percent yield on perpetual debt in either event. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A) 1.05

B) 1.35

C) 2.67

D) 7.15

33) Your company doesn't face any taxes and has $750 million in assets, currently financed entirely with equity. Equity is worth $50 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay a 9 percent yield on perpetual debt in either event. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A) 3.76

B) 9.15

C) 14.17

D) 83.79

34) Your company doesn't face any taxes and has $800 million in assets, currently financed entirely with equity. Equity is worth $60 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 20 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt in either event. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A) 2.47

B) 5.36

C) 6.12

D) 28.76

35) Your company doesn't face any taxes and has $250 million in assets, currently financed entirely with equity. Equity is worth $8 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 20 percent debt capital structure, and has determined that they would have to pay a 9 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $1.02

B) $1.42

C) $1.82

D) $2.00

36) Your company doesn't face any taxes and has $300 million in assets, currently financed entirely with equity. Equity is worth $15 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $1.21

B) $1.41

C) $1.55

D) $2.21

37) Your company doesn't face any taxes and has $750 million in assets, currently financed entirely with equity. Equity is worth $25 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 25 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $1.06

B) $1.17

C) $2.27

D) $2.28

38) Your company doesn't face any taxes and has $200 million in assets, currently financed entirely with equity. Equity is worth $10 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities as shown below:

The firm is considering switching to a 40 percent debt capital structure, and has determined that they would have to pay an 8 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $0.75

B) $1.1325

C) $1.1925

D) $1.55

39) Your company doesn't face any taxes and has $750 million in assets, currently financed entirely with equity. Equity is worth $25 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 25 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt in either event. What will be the break-even level of EBIT?

A) $20 million

B) $23.75 million

C) $42.5 million

D) $75 million

40) Your company doesn't face any taxes and has $300 million in assets, currently financed entirely with equity. Equity is worth $10 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay a 9 percent yield on perpetual debt in either event. What will be the break-even EBIT?

A) $19,000,000

B) $21,200,000

C) $27,000,000

D) $30,000,000

41) Your company doesn't face any taxes and has $200 million in assets, currently financed entirely with equity. Equity is worth $10 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 40 percent debt capital structure, and has determined that they would have to pay an 8 percent yield on perpetual debt in either event. What will be the break-even EBIT?

A) $13.6 million

B) $15 million

C) $16 million

D) $20 million

42) Your company doesn't face any taxes and has $150 million in assets, currently financed entirely with equity. Equity is worth $8 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 25 percent debt capital structure, and has determined that they would have to pay a 12 percent yield on perpetual debt in either event. What will be the break-even EBIT?

A) $18 million

B) $27.5 million

C) $32.5 million

D) $40 million

43) Your company has a 21 percent tax rate and has $750 million in assets, currently financed entirely with equity. Equity is worth $50 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay a 9 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $8.56

B) $8.84

C) $11.70

D) $25.67

44) Your company has a 21 percent tax rate and has $600 million in assets, currently financed entirely with equity. Equity is worth $20 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay a 9 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $0.32

B) $0.14

C) $0.39

D) $0.95

45) Your company has a 21 percent tax rate and has $800 million in assets, currently financed entirely with equity. Equity is worth $60 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 20 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $1.98

B) $2.29

C) $2.36

D) $3.11

46) Your company has a 21 percent tax rate and has $750 million in assets, currently financed entirely with equity. Equity is worth $50 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown follows:

The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay a 9 percent yield on perpetual debt in either event. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A) 2.98

B) 5.10

C) 10.05

D) 30.16

47) Your company has a 21 percent tax rate and has $600 million in assets, currently financed entirely with equity. Equity is worth $20 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay a 9 percent yield on perpetual debt in either event. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A) 0.46

B) 0.52

C) 0.88

D) 1.16

48) Your company has a 21% tax rate and has $800 million in assets, currently financed entirely with equity. Equity is worth $60 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 20 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt in either event. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A) 1.95

B) 2.35

C) 3.32

D) 11.04

49) Your company has a 21 percent tax rate and has $600 million in assets, currently financed entirely with equity. Equity is worth $20 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay a 9 percent yield on perpetual debt in either event. What will be the break-even level of EBIT?

A) $16,758,621

B) $20,000,000

C) $25,000,000

D) $54,000,037

50) Your company has a 21 percent tax rate and has $800 million in assets, currently financed entirely with equity. Equity is worth $60 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 20 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt in either event. What will be the break-even level of EBIT?

A) $26.67 million

B) $50 million

C) $56.67 million

D) $80.1 million

51) Your company faces a 21 percent tax rate and has $300 million in assets, currently financed entirely with equity. Equity is worth $10 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay a 9 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $0.30

B) $0.365

C) $0.49

D) $0.73

52) Your company faces a 21 percent tax rate and has $200 million in assets, currently financed entirely with equity. Equity is worth $10 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 40 percent debt capital structure, and has determined that they would have to pay an 8 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $0.893

B) $0.797

C) $0.946

D) $1.023

53) Your company faces a 21 percent tax rate and has $150 million in assets, currently financed entirely with equity. Equity is worth $8 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 25 percent debt capital structure, and has determined that they would have to pay a 12 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $0.49

B) $1.08

C) $1.57

D) $1.69

54) Your company faces a 21 percent tax rate and has $750 million in assets, currently financed entirely with equity. Equity is worth $25 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 25 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt in either event. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A) 0.689

B) 0.876

C) 1.186

D) 1.406

55) Your company faces a 21 percent tax rate and has $300 million in assets, currently financed entirely with equity. Equity is worth $10 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay a 9 percent yield on perpetual debt in either event. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A) 0.123

B) 0.246

C) 0.406

D) 0.496

56) Your company faces a 21 percent tax rate and has $150 million in assets, currently financed entirely with equity. Equity is worth $8 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 25 percent debt capital structure, and has determined that they would have to pay a 12 percent yield on perpetual debt in either event. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A) 0.289

B) 0.643

C) 0.798

D) 0.894

57) Suppose that Lil John Industries' equity is currently selling for $64 per share and that there are 1 million shares outstanding. If the firm also has 20 thousand bonds outstanding, which are selling at 108 percent of par ($1,000), what are the firm's current capital structure weights?

A) Weight of Equity = 25.23 percent; Weight of Debt = 74.77 percent

B) Weight of Equity = 84.77 percent; Weight of Debt = 15.23 percent

C) Weight of Equity = 74.77 percent; Weight of Debt = 25.23 percent

D) Weight of Equity = 32.23 percent; Weight of Debt = 67.77 percent

58) Suppose that Papa Bell Inc.'s equity is currently selling for $30 per share, with 4 million shares outstanding. If the firm also has 70 thousand bonds outstanding, which are selling at 95 percent of par ($1,000), what are the firm's current capital structure weights?

A) Weight of Equity = 74.11 percent; Weight of Debt = 25.89 percent

B) Weight of Equity = 64.34 percent; Weight of Debt = 35.66 percent

C) Weight of Equity = 67.80 percent; Weight of Debt = 32.20 percent

D) Weight of Equity = 65.19 percent; Weight of Debt = 34.81 percent

59) Suppose that Papa Bell Inc.'s equity is currently selling for $95 per share, with 4 million shares outstanding. If the firm also has 80 thousand bonds outstanding, which are selling at 91.5 percent of par ($1,000), what are the firm's current capital structure weights?

A) Weight of Equity = 83.85 percent; Weight of Debt = 16.15 percent

B) Weight of Equity = 81.29 percent; Weight of Debt = 18.71 percent

C) Weight of Equity = 77.80 percent; Weight of Debt = 12.20 percent

D) Weight of Equity = 65.19 percent; Weight of Debt = 34.81 percent

60) Daddi Mac, Inc., doesn't face any taxes and has $250 million in assets, currently financed entirely with equity. Equity is worth $13 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 25 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $0.13

B) $0.21

C) $0.27

D) $0.16

61) Daddi Mac, Inc., doesn't face any taxes and has $250 million in assets, currently financed entirely with equity. Equity is worth $20 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $0.33

B) $0.21

C) $0.37

D) $0.29

62) Daddi Mac, Inc., doesn't face any taxes and has $250 million in assets, currently financed entirely with equity. Equity is worth $13 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 25 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $0.19

B) $0.59

C) $0.41

D) $0.27

63) Daddi Mac, Inc., doesn't face any taxes and has $250 million in assets, currently financed entirely with equity. Equity is worth $13 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities as shown below:

The firm is considering switching to a 25 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A) $0.28

B) $0.33

C) $0.41

D) $0.11

64) Daddi Mac, Inc., doesn't face any taxes and has $250 million in assets, currently financed entirely with equity. Equity is worth $13 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 25 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A) $0.33

B) $0.26

C) $0.21

D) $0.16

65) Daddi Mac, Inc., doesn't face any taxes and has $250 million in assets, currently financed entirely with equity. Equity is worth $20 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. What will be the standard deviation in EPS if they switched to the proposed capital structure?

A) $0.37

B) $0.21

C) $0.36

D) $0.29

66) HiLo, Inc., doesn't face any taxes and has $100 million in assets, currently financed entirely with equity. Equity is worth $50 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 40 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $3.19

B) $4.00

C) $4.72

D) $5.97

67) HiLo, Inc., doesn't face any taxes and has $100 million in assets, currently financed entirely with equity. Equity is worth $50 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 40 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $7.24

B) $6.94

C) $5.59

D) $5.67

68) HiLo, Inc., doesn't face any taxes and has $100 million in assets, currently financed entirely with equity. Equity is worth $50 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 40 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $3.19

B) $3.94

C) $4.41

D) $5.67

69) HiLo, Inc., faces a 21 percent tax rate and has $100 million in assets, currently financed entirely with equity. Equity is worth $50 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities as shown below:

The firm is considering switching to a 40 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $2.96

B) $3.68

C) $4.17

D) $4.91

70) HiLo, Inc., doesn't face any taxes and has $100 million in assets, currently financed entirely with equity. Equity is worth $50 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 40 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A) $4.12

B) $14.57

C) $15.82

D) $15.09

71) HiLo, Inc., doesn't face any taxes and has $100 million in assets, currently financed entirely with equity. Equity is worth $50 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 40 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A) $7.91

B) $2.75

C) $6.59

D) $6.13

72) HiLo, Inc., doesn't face any taxes and has $100 million in assets, currently financed entirely with equity. Equity is worth $50 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 40 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. What will be the break-even level of EBIT?

A) $7.25 million

B) $7 million

C) $10 million

D) $11.2 million

73) HiLo, Inc., doesn't face any taxes and has $100 million in assets, currently financed entirely with equity. Equity is worth $50 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 40 percent debt capital structure, and has determined that they would have to pay a 15 percent yield on perpetual debt. What will be the break-even level of EBIT?

A) $11.2 million

B) $9.5 million

C) $13.0 million

D) $15.0 million

74) Ultras Inc. has a 21 percent tax rate and has $350 million in assets, currently financed entirely with equity. Equity is worth $80 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 20 percent debt capital structure, and has determined that they would have to pay a 7 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $1.18

B) $1.04

C) $0.93

D) $1.29

75) Ultras Inc. has a 21 percent tax rate and has $100 million in assets, currently financed entirely with equity. Equity is worth $90 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 10 percent debt capital structure, and has determined that they would have to pay a 9 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $6.27

B) $6.83

C) $7.17

D) $7.51

76) Ultras Inc. has a 21 percent tax rate and has $350 million in assets, currently financed entirely with equity. Equity is worth $80 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 20 percent debt capital structure, and has determined that they would have to pay a 7 percent yield on perpetual debt in either event. What will be the standard deviation in EPS if the firm switches to the proposed capital structure?

A) $1.17

B) $0.90

C) $0.81

D) $1.06

77) GTB, Inc., has a 21 percent tax rate and has $100 million in assets, currently financed entirely with equity. Equity is worth $10 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 40 percent debt capital structure, and has determined that they would have to pay a 5 percent yield on perpetual debt in either event. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A) $1.03

B) $0.42

C) $0.62

D) $0.66

78) The policy of changing the capital structure gradually over time by funding new capital projects disproportionately with the type of capital you want to increase in the capital structure is referred to as:

A) separation principle.

B) overinvestment problem.

C) passive capital structure management.

D) active capital structure management.

79) A situation that arises when a firm's equity is close to worthless, and equity holders will prefer to invest in overly risky projects with a small chance of success rather than simply paying debt holders their regularly scheduled payments is referred to as:

A) separation principle.

B) underinvestment problem.

C) overinvestment problem.

D) passive capital structure management.

80) Which of the following is incorrect with respect to leverage buyouts (LBOs)?

A) They originated in the 1960s and were originally known as bootstrap transactions that reflected the general consensus that the firm was, more or less, paying for its own acquisition.

B) The typical LBO uses a ratio of 70 percent debt to 30 percent equity but levels of debt can reach much higher.

C) LBOs are an extreme example of re-leveraging because debt is used to buy out the majority of the equity holders to gain control of the firm.

D) None of the statements are incorrect.

81) When a stockholder's stake is worthless the firm runs the risk of:

A) underinvestment because there isn't much capital for investment.

B) overinvestment because there isn't much wealth at risk.

C) having bondholders invoke the separation principle to obtain first rights on the firm's assets.

D) none of the options.

82) All else the same, firms facing relatively high tax rates should:

A) use more debt.

B) use less debt.

C) have lower D/E ratios.

D) none of the options.

83) All else the same, firms with stable, predictable income streams will be able to:

A) use less debt.

B) use more debt.

C) have lower D/E ratios.

D) none of the options.

84) All of the following are examples of the costs of financial distress EXCEPT:

A) excellent employees find employment elsewhere.

B) suppliers are reluctant to sell on credit to the firm.

C) bondholders decide to exercise their call option.

D) customers may be leery of buying from the firm.

85) All of the following are examples of the costs of financial distress EXCEPT:

A) excellent employees find employment elsewhere.

B) suppliers are reluctant to sell on credit to the firm.

C) other firms will be less likely to offer the firm partnering opportunities.

D) All of the options are examples of the costs of financial distress.

86) The two main factors that determine a firm's capital structure are:

A) whether debt interest payments are tax deductible and how increased debt might affect the likelihood of the firm going bankrupt.

B) whether debt interest payments are tax deductible and whether or not the bonds could be sold at a premium.

C) whether the markets are perfectly efficient and whether or not all participants have symmetric information.

D) none of the options.

87) JJJ Corp. has $10 million in assets and is currently financed with 100 percent equity. The firm decides to switch to a 60 percent equity/40 percent debt structure and decides to sell $4 million of debt and use the proceeds to retire $4 million in equity today. This is an example of:

A) underinvestment.

B) active capital structure management.

C) Modigliani-Miller theorem in practice.

D) none of the options.

88) JJJ Corp. has $10 million in assets and is currently financed with 100 percent equity. The firm decides to switch to a 60 percent equity/40 percent debt structure and decides to fund the next $4 million of assets for future projects entirely with debt, resulting in the desired capital structure at some point in the future. This is an example of:

A) active capital structure management.

B) separation principle.

C) Modigliani-Miller theorem in practice.

D) passive capital structure management.

89) We use the term leverage to describe the use of debt in the firm's capital structure because:

A) it magnifies the potential expected return to equity and the variability of that expected return.

B) it magnifies the risk of bankruptcy.

C) it magnifies earnings per share.

D) none of the options.

90) If the U.S. government completely eliminated taxation at the corporate level:

A) we would expect no change in the capital structure since it is independent of the tax rate.

B) we would expect to see lower debt levels since debt would no longer enjoy a tax advantage.

C) we would expect to see higher debt levels since debt would become cheaper relative to equity.

D) we would expect to see higher percentages of preferred stock since it enjoys a tax advantage over debt.

91) If the U.S. government increased the corporate tax rates:

A) we would expect no change in the capital structure since it is independent of the component costs of capital.

B) we would expect to see higher levels of equity since there would be less of a tax advantage for debt.

C) we would expect to see higher debt levels since debt would become cheaper relative to equity.

D) We would expect to see higher percentages of preferred stock since 70 percent of dividends are not taxed by corporations.

92) If bondholders of a firm in financial distress felt that they could recoup more of their investment by renegotiating their claims with the firm and allowing it to continue to operate, what type of bankruptcy would they probably push for?

A) Chapter 11

B) Chapter 13

C) Chapter 7

D) Chapter 9

93) Which of the following statements is correct?

A) Increasing the amount of firm debt increases both the expected cash flows to equity holders and the number of shares outstanding.

B) Increasing the amount of firm debt increases both the expected cash flows to equity holders and the amortization.

C) Increasing the amount of firm debt increases both the expected cash flows to equity holders and the volatility of those cash flows.

D) Increasing the amount of firm debt increases both the expected cash flows to equity holders and the tax liability.

94) Which of the following statements is correct?

A) Adding corporate taxes to the M&M model reduces both the level and volatility of EPS.

B) Adding corporate taxes to the M&M model has no impact on the level and volatility of EPS.

C) Adding corporate taxes to the M&M model increases both the level and volatility of EPS.

D) None of the statements are correct.

95) Why does allowing for the existence of corporate taxation cause firms to prefer the maximum amount of debt possible?

A) Because the flotation costs associated with debt are significantly lower than the flotation costs associated with equity.

B) Because debt is tax-deductible, the effective cost of debt is much cheaper than using equity.

C) Because debt places fewer demands on the firm's cash flows.

D) None of the options cause firms to prefer the maximum amount of debt possible.

96) A firm faces a 21 percent tax rate and has $200m in assets, currently financed entirely with equity. Equity is worth $10 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected EBIT is $10m. The firm is considering switching to a 25 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. What will be the firm's new ROE if they switch to the proposed capital structure?

A) 2.63 percent

B) 2.86 percent

C) 2.39 percent

D) 1.98 percent

97) A firm faces a 21 percent tax rate and has $500m in assets, currently financed entirely with equity. Equity is worth $100 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected EBIT is $70m. The firm is considering switching to an 18 percent debt capital structure, and has determined that they would have to pay an 8 percent yield on perpetual debt. How much will ROE change if they switch to the proposed capital structure?

A) There will be no change in the firm's ROE.

B) The ROE will decrease by 0.52 percent.

C) The ROE will increase by 1.58 percent.

D) The ROE will increase by 1.04 percent.

98) A firm faces a 21 percent tax rate and has $500m in assets, currently financed entirely with equity. Equity is worth $100 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected EBIT is $60m. The firm is considering switching to a 25 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. How much will ROE change if they switch to the proposed capital structure?

A) There will be no change in the firm's ROE.

B) The ROE will increase by 0.53 percent.

C) The ROE will increase by 1.15 percent.

D) The ROE will increase by 0.82 percent.

99) Which of the following statements is correct?

A) The effect of increasing a firm's use of financial leverage is to decrease the volatility of the firm's earnings.

B) The effect of increasing a firm's use of financial leverage could be either to increase or decrease the volatility of the firm's earnings depending on how much leverage is utilized.

C) The effect of increasing a firm's use of financial leverage is to increase the volatility of the firm's earnings.

D) None of the statements are correct.

100) The Modigilian-Miller (M&M) theorem states that:

A) in an efficient market without taxes and bankruptcy costs, the value of a firm depends upon the firm's capital structure.

B) in an efficient market without taxes and bankruptcy costs, the value of a firm does not depend upon the firm's capital structure.

C) in an efficient market without taxes and bankruptcy costs, the value of a firm does not depend upon the firm's cost of capital.

D) none of the options.

101) If an investor wanted to reduce the risk of a levered stock in their portfolio, how could they go about doing so while still retaining shares in the company?

A) They could sell some of their shares and use the proceeds to buy the firm's bonds.

B) They could sell some of their bonds and use the proceeds to buy the firm's stock.

C) They could use borrowed funds to buy more of the firm's stock.

D) None of the options.

102) Why is debt often referred to as leverage in finance?

A) Debt magnifies the firm's total asset turnover.

B) Debt magnifies both the potential returns and the risk to bondholders.

C) Debt magnifies both the potential returns and the risk to equity holders.

D) None of the options.

103) An all-equity financed firm has $450 in assets and the stock price is $45. If the firm restructures with 20 percent debt which creates interest expense of $10 per year and the firm's tax rate is 21 percent, what is the break-even EBIT?

A) $30

B) $35

C) $45

D) $50

104) An all-equity financed firm has $350 in assets and the stock price is $10. If the firm restructures with 20 percent debt which creates interest expense of $14 per year and the firm's tax rate is 21 percent, what is the break-even EBIT?

A) $70

B) $67

C) $74

D) $79

105) An all-equity financed firm has $650 in assets and the stock price is $20. If the firm restructures with 40 percent debt which creates interest expense of $17 per year and the firm's tax rate is 21 percent, what is the break-even EBIT?

A) $37.50

B) $31.50

C) $49.50

D) $42.50

106) An all-equity financed firm has $500 in assets and the stock price is $20. If the firm restructures with 15 percent debt which creates interest expense of $30 per year and the firm's tax rate is 21 percent, what is the break-even EBIT?

A) $20

B) $150

C) $200

D) $500

107) A firm faces a 21 percent tax rate and has $700m in assets, currently financed entirely with equity. Equity is worth $100 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected EBIT is $100m. The firm is considering switching to a 45 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt. How much will ROE change if they switch to the proposed capital structure?

A) There will be no change in the firm's ROE.

B) The ROE will increase by 3.50 percent.

C) The ROE will increase by 2.77 percent.

D) The ROE will increase by 0.02 percent.

108) A firm faces a 21 percent tax rate and has $6m in assets, currently financed entirely with equity. Equity is worth $200 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected EBIT is $50m. The firm is considering switching to a 50 percent debt capital structure, and has determined that they would have to pay an 8 percent yield on perpetual debt. How much will ROE change if they switch to the proposed capital structure?

A) There will be no change in the firm's ROE.

B) The ROE will increase by 0.61 percent.

C) The ROE will increase by 3.00 percent.

D) The ROE will increase by 6.52 percent.

109) An all-equity financed firm has $6m in assets and the stock price is $200. If the firm restructures with 40 percent debt which creates interest expense of $240,000 per year and the firm's tax rate is 21 percent, what is the break-even EBIT?

A) $336,000

B) $380,000

C) $432,000

D) $600,000

110) An all-equity financed firm has $45,000 in assets and the stock price is $10. If the firm restructures with 30 percent debt which creates interest expense of $810 per year and the firm's tax rate is 21 percent, what is the break-even EBIT?

A) $1,157

B) $1,500

C) $1,967

D) $2,700

111) Epic Inc. has a 21 percent tax rate and has $13 million in assets, currently financed entirely with equity. Equity is worth $25 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay an 8 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $19.23

B) $22.11

C) $16.10

D) $15.97

112) Epic Inc. has a 21 percent tax rate and has $40 million in assets, currently financed entirely with equity. Equity is worth $10 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 40 percent debt capital structure, and has determined that they would have to pay a 10 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $10.67

B) $8.25

C) $8.04

D) $4.50

113) Your company doesn't face any taxes and has $10 million in assets, currently financed entirely with equity. Equity is worth $10 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 40 percent debt capital structure, and has determined that they would have to pay a 9 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $12.73

B) $11.23

C) $7.73

D) $5.00

114) Your company doesn't face any taxes and has $5 million in assets, currently financed entirely with equity. Equity is worth $5 per share, and book value of equity is equal to market value of equity. Also, let's assume that the firm's expected values for EBIT depend upon which state of the economy occurs this year, with the possible values of EBIT and their associated probabilities shown as follows:

The firm is considering switching to a 30 percent debt capital structure, and has determined that they would have to pay an 11 percent yield on perpetual debt in either event. What will be the level of expected EPS if they switch to the proposed capital structure?

A) $9.67

B) $7.33

C) $6.91

D) $4.84