Question 1

For every dollar of operating income paid out as interest, the bondholder realizes

Accepted Answer

A) (1 - Tp). 
B) (1 − Tp
E) (1 − T
C) . 
C) (1 − T
C) . 
D) 1/(1 − T
C) . 
A) (1 - Tp). 
B) (1 − Tp
E) (1 − T
C) . 
C) (1 − T
C) . 
D) 1/(1 − T
C) .

Question 2

Under the trade-off theory, how will a government loan guarantee impact financing?

Accepted Answer

A) Prefer to issue debt 
B) Prefer to issue stock 
C) Prefer internal money 
D) No impact occurs. 
A) Prefer to issue debt 
B) Prefer to issue stock 
C) Prefer internal money 
D) No impact occurs.

Question 3

State Modigliani-Miller's Proposition I, corrected to include corporate income taxes.

Accepted Answer

The value of a levered firm is equal to

Question 4

One of the indirect costs to bankruptcy is the incentive toward underinvestment. Following this strategy may result in:
I.the firm always choosing projects with positive NPVs;
II.stockholders turning down low-risk, low-return but positive NPV projects;
III.the firm declaring and paying high cash dividends

Accepted Answer

A) I only 
B) II only 
C) III only 
D) II and III only 
A) I only 
B) II only 
C) III only 
D) II and III only

Question 5

What is the relative tax advantage of debt when corporate and personal taxes are considered?

Accepted Answer

The relative tax advantage of debt can b

Question 6

MM's Proposition I corrected for corporate taxes states that Value of levered firm = Value of unlevered firm + PV tax shield.

Accepted Answer

A) True 
 B)False

Question 7

The indirect costs of bankruptcy are borne principally by

Accepted Answer

A) bondholders. 
B) stockholders. 
C) managers. 
D) the federal government. 
A) bondholders. 
B) stockholders. 
C) managers. 
D) the federal government.

Question 8

Assume the marginal corporate tax rate is 21 percent. The firm has no debt in its capital structure. It is valued at $100 million. What would be the value of the firm if it issued $50 million in perpetual debt and repurchased the same amount of equity?

Accepted Answer

A) $65 million 
B) $110.5 million 
C) $100 million 
D) $150 million 
A) $65 million 
B) $110.5 million 
C) $100 million 
D) $150 million

Question 9

Risk shifting, refusing to contribute equity, and playing for time are some of the consequences of firms facing bankruptcy.

Accepted Answer

A) True 
 B)False

Question 10

MM Proposition I with corporate taxes states that:
I.capital structure can affect firm value by an amount that is equal to the present value of the interest tax shield;
II.by raising the debt-to-equity ratio, the firm can lower its taxes and thereby increase its total value;
III.firm value is maximized by using an all-equity capital structure

Accepted Answer

A) I only 
B) II only 
C) III only 
D) I and II 
A) I only 
B) II only 
C) III only 
D) I and II

Question 11

Bombay Company's book and market value balance sheets are as follows:
(NWC = net working capital; LTA = long term assets; D = debt; E = equity; V = firm value):
 
According to MM's Proposition I corrected for taxes, what will be the change in company value if Bombay issues $200 of equity and uses it to make a permanent reduction in the company's debt? Assume a 21 percent marginal corporate tax rate.

Accepted Answer

A) +$140 
B) +$70 
C) $0 
D) −$42 
A) +$140 
B) +$70 
C) $0 
D) −$42

Question 12

Which of the following entities likely has the highest cost of financial distress?

Accepted Answer

A) A pharmaceuticals development company 
B) A downtown bayfront hotel 
C) A yacht leasing company 
D) A real estate investment trust 
A) A pharmaceuticals development company 
B) A downtown bayfront hotel 
C) A yacht leasing company 
D) A real estate investment trust

Question 13

When faced with financial distress, managers of firms acting on behalf of their shareholders' interests will tend to:
I.favor high-risk, high-return projects even if they have negative NPV;
II.refuse to invest in low-risk, low-return projects with positive NPVs;
III.delay the onset of bankruptcy as long as they can

Accepted Answer

A) I only 
B) II only 
C) III only 
D) I, II, and III 
A) I only 
B) II only 
C) III only 
D) I, II, and III

Question 14

Which of the following statements regarding financial distress is (are)true?
I.Firms in financial distress always end up in bankruptcy.
II.Firms can postpone bankruptcy for many years.
III.Ultimately, the firm may recover from financial distress and avoid bankruptcy altogether.

Accepted Answer

A) I only 
B) II only 
C) II and III only 
D) III only 
A) I only 
B) II only 
C) II and III only 
D) III only

Question 15

What does "risk shifting" imply?

Accepted Answer

A) When faced with bankruptcy, managers tend to invest in high-risk, high-return projects. 
B) When faced with bankruptcy, managers do not invest more equity capital. 
C) When faced with bankruptcy, managers may make accounting changes to conceal the true extent of the problem. 
D) When faced with bankruptcy, managers invest in low risk projects to conserve capital. 
A) When faced with bankruptcy, managers tend to invest in high-risk, high-return projects. 
B) When faced with bankruptcy, managers do not invest more equity capital. 
C) When faced with bankruptcy, managers may make accounting changes to conceal the true extent of the problem. 
D) When faced with bankruptcy, managers invest in low risk projects to conserve capital.

Exam 18: How Much Should a Corporation Borrow

For every dollar of operating income paid out as interest, the bondholder realizes

Under the trade-off theory, how will a government loan guarantee impact financing?

State Modigliani-Miller's Proposition I, corrected to include corporate income taxes.

What is the relative tax advantage of debt when corporate and personal taxes are considered?

MM's Proposition I corrected for corporate taxes states that Value of levered firm = Value of unlevered firm + PV tax shield.

The indirect costs of bankruptcy are borne principally by

Assume the marginal corporate tax rate is 21 percent. The firm has no debt in its capital structure. It is valued at $100 million. What would be the value of the firm if it issued $50 million in perpetual debt and repurchased the same amount of equity?

Risk shifting, refusing to contribute equity, and playing for time are some of the consequences of firms facing bankruptcy.

Which of the following entities likely has the highest cost of financial distress?

Which of the following statements regarding financial distress is (are)true? I.Firms in financial distress always end up in bankruptcy. II.Firms can postpone bankruptcy for many years. III.Ultimately, the firm may recover from financial distress and avoid bankruptcy altogether.

What does "risk shifting" imply?

Introduction to Corporate Finance

How to Calculate Present Values

Valuing Bonds

The Value of Common Stocks

Net Present Value and Other Investment Criteria

Making Investment Decisions With the Net Present Value Rule

Introduction to Risk and Return

Portfolio Theory and the Capital Asset Pricing Model

Risk and the Cost of Capital

Project Analysis

How to Ensure That Projects Truly Have Positive Npvs

Agency Problems and Investment

Efficient Markets and Behavioral Finance

An Overview of Corporate Financing

How Corporations Issue Securities

Payout Policy

Does Debt Policy Matter

Financing and Valuation

Understanding Options

Valuing Options

Real Options

Credit Risk and the Value of Corporate Debt

The Many Different Kinds of Debt

Leasing

Managing Risk

Managing International Risks

Financial Analysis

Financial Planning

Working Capital Management

Mergers

Corporate Restructuring

Governance and Corporate Control Around the World

Filters