BADM 710 FINAL TEST QUESTIONS WITH VERIFIED
ACCURATE ANSWERS
The unlevered cost of capital is:
A: the cost of capital for a firm with no equity in its capital structure.
B: the cost of capital for a firm with no debt in its capital structure.
C: the interest tax shield times pretax net income.
D: the cost of preferred stock for an all-equity firm.
E: equal to the profit margin for a firm with some debt in its capital structure. - Answers -
B: the cost of capital for a firm with no debt in its capital structure.
The firm's capital structure refers to the:
A: mix of current and fixed assets a firm holds.
B: amount of capital invested in the firm.
C: amount of dividends a firm pays.
D: mix of debt and equity used to finance the firm's assets.
E: amount of cash versus receivables the firm holds. - Answers - D: mix of debt and
equity used to finance the firm's assets.
A manager should attempt to maximize the value of the firm by changing the capital
structure if and only if the value of the firm increases:
A: as a result of the change.
B: to the sole benefit of the managers.
C: to the sole benefit of the debtholders.
D: while also decreasing shareholder value.
E: while holding stockholder value constant. - Answers - A: as a result of the change.
MM Proposition I without taxes proposes that:
A: the value of an unlevered firm exceeds that of a levered firm.
B: there is one ideal capital structure for each firm.
C: leverage does not affect the value of the firm.
D: shareholder wealth is directly affected by the capital structure selected.
E: the value of a levered firm exceeds that of an unlevered firm. - Answers - C: leverage
does not affect the value of the firm.
A key underlying assumption of MM Proposition I without taxes is that:
A: financial leverage increases risk.
B: individuals can borrow at lower rates than corporations.
C: individuals and corporations borrow at the same rate.
, D: managers always act to maximize the value of the firm.
E: corporations are all-equity financed. - Answers - C: individuals and corporations
borrow at the same rate.
MM Proposition I with taxes supports the theory that:
A: there is a positive linear relationship between the amount of debt in a levered firm
and its value.
B: the value of a firm is inversely related to the amount of leverage used by the firm.
C: the value of an unlevered firm is equal to the value of a levered firm plus the value of
the interest tax shield.
D: a firm's cost of capital is the same regardless of the mix of debt and equity used by
the firm.
E: a firm's weighted average cost of capital increases as the debt-equity ratio of the firm
rises. - Answers - A: there is a positive linear relationship between the amount of debt in
a levered firm and its value.
MM Proposition II with taxes:
A: has the same general implications as MM Proposition II without taxes.
B: reveals how the interest tax shield relates to the value of a firm.
C: supports the argument that business risk is determined by the capital structure
employed by a firm.
D: supports the argument that the cost of equity decreases as the debt-equity ratio
increases.
E: reaches the final conclusion that the capital structure decision is irrelevant to the
value of a firm. - Answers - A: has the same general implications as MM Proposition II
without taxes.
A firm has a debt-equity ratio of .64, a pretax cost of debt of 8.5 percent, and a required
return on assets of 12.6 percent. What is the cost of equity if you ignore taxes?
A: 8.06%
B: 8.55%
C: 11.12%
D: 15.22%
E: 16.38% - Answers - D: 15.22%
Requrired Return on assets:
12.6% = (((. +.64) x 0.085) + (1 / .64+1) x Cost of equity)
12.6% = 3.317% + .609 x Cost of equity
Cost of equity = (12.6% - 3.317% / .609)
Cost of Equity = 15.22%
ACCURATE ANSWERS
The unlevered cost of capital is:
A: the cost of capital for a firm with no equity in its capital structure.
B: the cost of capital for a firm with no debt in its capital structure.
C: the interest tax shield times pretax net income.
D: the cost of preferred stock for an all-equity firm.
E: equal to the profit margin for a firm with some debt in its capital structure. - Answers -
B: the cost of capital for a firm with no debt in its capital structure.
The firm's capital structure refers to the:
A: mix of current and fixed assets a firm holds.
B: amount of capital invested in the firm.
C: amount of dividends a firm pays.
D: mix of debt and equity used to finance the firm's assets.
E: amount of cash versus receivables the firm holds. - Answers - D: mix of debt and
equity used to finance the firm's assets.
A manager should attempt to maximize the value of the firm by changing the capital
structure if and only if the value of the firm increases:
A: as a result of the change.
B: to the sole benefit of the managers.
C: to the sole benefit of the debtholders.
D: while also decreasing shareholder value.
E: while holding stockholder value constant. - Answers - A: as a result of the change.
MM Proposition I without taxes proposes that:
A: the value of an unlevered firm exceeds that of a levered firm.
B: there is one ideal capital structure for each firm.
C: leverage does not affect the value of the firm.
D: shareholder wealth is directly affected by the capital structure selected.
E: the value of a levered firm exceeds that of an unlevered firm. - Answers - C: leverage
does not affect the value of the firm.
A key underlying assumption of MM Proposition I without taxes is that:
A: financial leverage increases risk.
B: individuals can borrow at lower rates than corporations.
C: individuals and corporations borrow at the same rate.
, D: managers always act to maximize the value of the firm.
E: corporations are all-equity financed. - Answers - C: individuals and corporations
borrow at the same rate.
MM Proposition I with taxes supports the theory that:
A: there is a positive linear relationship between the amount of debt in a levered firm
and its value.
B: the value of a firm is inversely related to the amount of leverage used by the firm.
C: the value of an unlevered firm is equal to the value of a levered firm plus the value of
the interest tax shield.
D: a firm's cost of capital is the same regardless of the mix of debt and equity used by
the firm.
E: a firm's weighted average cost of capital increases as the debt-equity ratio of the firm
rises. - Answers - A: there is a positive linear relationship between the amount of debt in
a levered firm and its value.
MM Proposition II with taxes:
A: has the same general implications as MM Proposition II without taxes.
B: reveals how the interest tax shield relates to the value of a firm.
C: supports the argument that business risk is determined by the capital structure
employed by a firm.
D: supports the argument that the cost of equity decreases as the debt-equity ratio
increases.
E: reaches the final conclusion that the capital structure decision is irrelevant to the
value of a firm. - Answers - A: has the same general implications as MM Proposition II
without taxes.
A firm has a debt-equity ratio of .64, a pretax cost of debt of 8.5 percent, and a required
return on assets of 12.6 percent. What is the cost of equity if you ignore taxes?
A: 8.06%
B: 8.55%
C: 11.12%
D: 15.22%
E: 16.38% - Answers - D: 15.22%
Requrired Return on assets:
12.6% = (((. +.64) x 0.085) + (1 / .64+1) x Cost of equity)
12.6% = 3.317% + .609 x Cost of equity
Cost of equity = (12.6% - 3.317% / .609)
Cost of Equity = 15.22%
