BADM 710 Final Test Preparation Material
BADM 710 FINAL TEST PREPARATION MATERIAL 2025/2026
COMPLETE 100 QUESTIONS AND CORRECT ANSWERS |ALREADY
GRADED A+
Your firm has a $250,000 bond issue outstanding. These bonds have a coupon rate
of 7 percent, pay interest semiannually, and have a current market price equal to
103 percent of face value. What is the amount of the annual interest tax shield
given a tax rate of 35 percent?
A: $6,125
B: $6,309
C: $9,500
D: $17,500
E: $18,025
A: $6,125
Annual Interest = Face Value * Coupon Rate
$250,000 * 7% = 17,500
Annual Interest Tax Shield = Interest Tax Rate = 17,500 35% = $6,125
A firm has zero debt and an overall cost of capital of 13.8 percent. The firm is
considering a new capital structure with 40 percent debt. The interest rate on the
debt would be 7.2 percent and the corporate tax rate is 34 percent. What would
be the cost of equity with the new capital structure?
A: 16.90%
B: 16.11%
C: 16.70%
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, BADM 710 Final Test Preparation Material
D: 15.02%
E: 15.59%
C: 16.70%
1. Compute levered cost of equity:
Ro = 15.40%
D/E ratio = 0.40 / (1-.40) = 0.6667
rd = 7.2%
2. Without taxes:
Re = Ro + (Ro-Rd) x (1-t) x D/E
= 0.1380 + (0.1380-0.0720) x (1-0.0) x 0.6667
= 0.1380 + 0.0440
= 18.20% (new cost of equity)
3. With Taxes:
Re= Ro + (Ro-Rd) x (1-t) x D/E
=0.1380 + 0.1380 - 0.720 x (1-0.34) x 0.6667
= 0.1380 + 0.0290
= 16.70%
The optimal capital structure has been achieved when the:
A: debt-equity ratio is equal to 1.
B: weight of equity is equal to the weight of debt.
C: cost of equity is maximized given a pretax cost of debt.
D: debt-equity ratio is such that the cost of debt exceeds the cost of equity.
E: debt-equity ratio selected results in the lowest possible weighed average cost of
capital.
E: debt-equity ratio selected results in the lowest possible weighed average cost of
capital.
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, BADM 710 Final Test Preparation Material
The MM theory with taxes implies that firms should issue maximum debt. In
practice, this does not occur because:
A: debt is more risky than equity.
B: bankruptcy is a disadvantage to debt.
C: the weighted average cost of capital is inversely related to the debt-equity ratio.
D: the weighted average cost of capital is directly related to the debt-equity ratio.
E: U.S. regulations require the debt-equity ratio of publicly-traded firms to be in
the range of .3 to .7.
B: bankruptcy is a disadvantage to debt.
One of the indirect costs of bankruptcy is the incentive for managers to take large
risks. When following this strategy:
A: the firm will rank all projects and select the project which results in the highest
expected firm value.
B: bondholders expropriate value from stockholders by selecting high-risk
projects.
C: stockholders expropriate value from bondholders by selecting high-risk
projects.
D: the firm will always select the lowest-risk project available.
E: the firm will select only all-equity financed projects.
C: stockholders expropriate value from bondholders by selecting high-risk
projects.
3|Page
BADM 710 FINAL TEST PREPARATION MATERIAL 2025/2026
COMPLETE 100 QUESTIONS AND CORRECT ANSWERS |ALREADY
GRADED A+
Your firm has a $250,000 bond issue outstanding. These bonds have a coupon rate
of 7 percent, pay interest semiannually, and have a current market price equal to
103 percent of face value. What is the amount of the annual interest tax shield
given a tax rate of 35 percent?
A: $6,125
B: $6,309
C: $9,500
D: $17,500
E: $18,025
A: $6,125
Annual Interest = Face Value * Coupon Rate
$250,000 * 7% = 17,500
Annual Interest Tax Shield = Interest Tax Rate = 17,500 35% = $6,125
A firm has zero debt and an overall cost of capital of 13.8 percent. The firm is
considering a new capital structure with 40 percent debt. The interest rate on the
debt would be 7.2 percent and the corporate tax rate is 34 percent. What would
be the cost of equity with the new capital structure?
A: 16.90%
B: 16.11%
C: 16.70%
1|Page
, BADM 710 Final Test Preparation Material
D: 15.02%
E: 15.59%
C: 16.70%
1. Compute levered cost of equity:
Ro = 15.40%
D/E ratio = 0.40 / (1-.40) = 0.6667
rd = 7.2%
2. Without taxes:
Re = Ro + (Ro-Rd) x (1-t) x D/E
= 0.1380 + (0.1380-0.0720) x (1-0.0) x 0.6667
= 0.1380 + 0.0440
= 18.20% (new cost of equity)
3. With Taxes:
Re= Ro + (Ro-Rd) x (1-t) x D/E
=0.1380 + 0.1380 - 0.720 x (1-0.34) x 0.6667
= 0.1380 + 0.0290
= 16.70%
The optimal capital structure has been achieved when the:
A: debt-equity ratio is equal to 1.
B: weight of equity is equal to the weight of debt.
C: cost of equity is maximized given a pretax cost of debt.
D: debt-equity ratio is such that the cost of debt exceeds the cost of equity.
E: debt-equity ratio selected results in the lowest possible weighed average cost of
capital.
E: debt-equity ratio selected results in the lowest possible weighed average cost of
capital.
2|Page
, BADM 710 Final Test Preparation Material
The MM theory with taxes implies that firms should issue maximum debt. In
practice, this does not occur because:
A: debt is more risky than equity.
B: bankruptcy is a disadvantage to debt.
C: the weighted average cost of capital is inversely related to the debt-equity ratio.
D: the weighted average cost of capital is directly related to the debt-equity ratio.
E: U.S. regulations require the debt-equity ratio of publicly-traded firms to be in
the range of .3 to .7.
B: bankruptcy is a disadvantage to debt.
One of the indirect costs of bankruptcy is the incentive for managers to take large
risks. When following this strategy:
A: the firm will rank all projects and select the project which results in the highest
expected firm value.
B: bondholders expropriate value from stockholders by selecting high-risk
projects.
C: stockholders expropriate value from bondholders by selecting high-risk
projects.
D: the firm will always select the lowest-risk project available.
E: the firm will select only all-equity financed projects.
C: stockholders expropriate value from bondholders by selecting high-risk
projects.
3|Page
