Question 1

What is the amount of the annual interest tax shield for a firm with $5 million in debt that pays 10% interest if the firm is in the 40% tax bracket?

Accepted Answer

A) $100,000 
B) $200,000 
C) $300,000 
D) $400,000 Interest tax shield = interest expense x tax rate
= $5,000,000 x .1 x .40 
A) $100,000 
B) $200,000 
C) $300,000 
D) $400,000 Interest tax shield = interest expense x tax rate
= $5,000,000 x .1 x .40

Question 2

The benefit of an interest tax shield is captured by the equity holders.

Accepted Answer

A) True 
 B)False

Question 3

When taxes are considered, the value of a levered firm equals the value of the:

Accepted Answer

A) Unlevered firm 
B) Unlevered firm plus the value of the debt 
C) Unlevered firm plus the present value of the tax shield 
D) Unlevered firm plus the value of the debt plus the value of the tax shield 
A) Unlevered firm 
B) Unlevered firm plus the value of the debt 
C) Unlevered firm plus the present value of the tax shield 
D) Unlevered firm plus the value of the debt plus the value of the tax shield

Question 4

An increase in a firm's financial leverage will:

Accepted Answer

A) Increase the variability in earnings per share 
B) Reduce the operating risk of the firm 
C) Increase the value of the firm in a non-MM world 
D) Increase the WACC 
A) Increase the variability in earnings per share 
B) Reduce the operating risk of the firm 
C) Increase the value of the firm in a non-MM world 
D) Increase the WACC

Question 5

One advantage of debt financing over equity financing is:

Accepted Answer

A) Tax deductible dividends 
B) Tax deductible interest 
C) Tax deductible principal repayment 
D) Tax free interest income 
A) Tax deductible dividends 
B) Tax deductible interest 
C) Tax deductible principal repayment 
D) Tax free interest income

Question 6

What is the goal of the capital structure decision? What is the financial manager trying to do?

Accepted Answer

The goal is to maximize the overall mark

Question 7

Which of the following lists presents the order of financing from most preferred to least preferred according to the pecking order theory?

Accepted Answer

A) Debt issue, stock issue, internally generated funds 
B) Internally generated funds, debt issue, stock issue 
C) Stock issue, internally generated funds, debt issue 
D) Internally generated funds, stock issue, debt issue 
A) Debt issue, stock issue, internally generated funds 
B) Internally generated funds, debt issue, stock issue 
C) Stock issue, internally generated funds, debt issue 
D) Internally generated funds, stock issue, debt issue

Question 8

Financial risk is the risk to shareholders that result from debt financing.

Accepted Answer

A) True 
 B)False

Question 9

How do corporate income taxes modify MM's leverage irrelevance proposition?
D.Future interest tax shields are usually valued by discounting at the borrowing rate rdebt.In the special case of permanent debt,
PV tax shield = Tc (rdebt x D)/rdebt = TcD

Accepted Answer

Debt interest is a tax-deductible expens

Question 10

What is meant by investors being able "to undo" the effects of corporate restructuring? Investors:

Accepted Answer

A) Repay their portion of the firm's debt 
B) Only purchase securities in unlevered firms 
C) Will pay more for unlevered shares 
D) Borrow in their name and replicate the effects of restructuring 
A) Repay their portion of the firm's debt 
B) Only purchase securities in unlevered firms 
C) Will pay more for unlevered shares 
D) Borrow in their name and replicate the effects of restructuring

Question 11

How much debt is outstanding in a firm that has calculated the present value of a perpetual tax shield to be $300,000 if the tax rate is 35% and the debt carries a 10% rate of return?

Accepted Answer

A) $300,000 
B) $857,143 
C) $3,000,000 
D) $3,750,000 PV tax shield =
$300,000 =
30,000 = 28.5714D 
A) $300,000 
B) $857,143 
C) $3,000,000 
D) $3,750,000 PV tax shield =
$300,000 =
30,000 = 28.5714D

Question 12

What is the after-tax cost of debt for a firm in the 35% tax bracket that pays 15% on its debt?

Accepted Answer

A) 5.25% 
B) 9.75% 
C) 12.17% 
D) 20.25% After-tax cost of debt = (1-Tc)rdebt
= .65 x .15 
A) 5.25% 
B) 9.75% 
C) 12.17% 
D) 20.25% After-tax cost of debt = (1-Tc)rdebt
= .65 x .15

Question 13

MM's Proposition II states that the expected return on equity increases as the firm's debt-equity ratio increases.

Accepted Answer

A) True 
 B)False

Question 14

What is the proportion of debt financing for a firm that expects a 24% return on equity, a 16% return on assets, and a 12% return on debt? Ignore taxes.

Accepted Answer

A) 54.0% 
B) 60.0% 
C) 66.7% 
D) 75.0% .24 = .16 + 
A) 54.0% 
B) 60.0% 
C) 66.7% 
D) 75.0% .24 = .16 +

Question 15

When taxes are ignored, which of the following can be used to calculate the weighted-average cost of capital?

Accepted Answer

A) Ratio of expected operating income to book value of all securities 
B) The expected return on equity times the debt-equity ratio 
C) Ratio of expected operating income to market value of all securities 
D) The required return on equity plus the required return on debt 
A) Ratio of expected operating income to book value of all securities 
B) The expected return on equity times the debt-equity ratio 
C) Ratio of expected operating income to market value of all securities 
D) The required return on equity plus the required return on debt

Question 16

Those who benefit from the interest tax shield are:

Accepted Answer

A) Debt holders 
B) Equity holders 
C) Both debt holders and equity holders 
D) Only the firm's customers benefit from the interest tax shield 
A) Debt holders 
B) Equity holders 
C) Both debt holders and equity holders 
D) Only the firm's customers benefit from the interest tax shield

Question 17

A firm has an expected return on equity of 14% and an after-tax cost of debt of 6%.What debt-equity ratio should be used in order to keep the WACC at 10%?

Accepted Answer

A) 1.00 
B) 0.75 
C) 0.50 
D) 0.25 
A) 1.00 
B) 0.75 
C) 0.50 
D) 0.25

Question 18

A firm issues 100,000 equity shares with a total market value of $5,000,000.The firm's market value of debt is also of equal amount, i.e., $5,000,000.The firm is expected to generate $1.5 million in operating income and pay $250,000 in interest.Ignoring taxes, this will generate $12.50 earnings per share.What will happen to EPS if the firm's borrowing and interest expense increases by 50% and the number of shares in circulation is cut by 50% (assuming that the share price remains unchanged with this change in capital structure)?

Accepted Answer

A) EPS decrease to $10.00 
B) EPS decrease to $11.67 
C) EPS increase to $15.00 
D) EPS increase to $22.50 
A) EPS decrease to $10.00 
B) EPS decrease to $11.67 
C) EPS increase to $15.00 
D) EPS increase to $22.50

Question 19

Calculate the required return on the debt.

Accepted Answer

The answer of Calculate the required return on the debt....

Question 20

A decrease in the possible range of %age stock returns can be achieved by:

Accepted Answer

A) A decrease in the firm's financial leverage 
B) An increase in the firm's asset risk 
C) An increase in the firm's business risk 
D) A decrease in the firm's debt beta 
A) A decrease in the firm's financial leverage 
B) An increase in the firm's asset risk 
C) An increase in the firm's business risk 
D) A decrease in the firm's debt beta

Exam 16: Debt Policy

What is the amount of the annual interest tax shield for a firm with $5 million in debt that pays 10% interest if the firm is in the 40% tax bracket?

The benefit of an interest tax shield is captured by the equity holders.

When taxes are considered, the value of a levered firm equals the value of the:

An increase in a firm's financial leverage will:

One advantage of debt financing over equity financing is:

What is the goal of the capital structure decision? What is the financial manager trying to do?

Which of the following lists presents the order of financing from most preferred to least preferred according to the pecking order theory?

Financial risk is the risk to shareholders that result from debt financing.

How do corporate income taxes modify MM's leverage irrelevance proposition? D.Future interest tax shields are usually valued by discounting at the borrowing rate rdebt.In the special case of permanent debt, PV tax shield = Tc (rdebt x D)/rdebt = TcD

What is meant by investors being able "to undo" the effects of corporate restructuring? Investors:

How much debt is outstanding in a firm that has calculated the present value of a perpetual tax shield to be $300,000 if the tax rate is 35% and the debt carries a 10% rate of return?

What is the after-tax cost of debt for a firm in the 35% tax bracket that pays 15% on its debt?

MM's Proposition II states that the expected return on equity increases as the firm's debt-equity ratio increases.

What is the proportion of debt financing for a firm that expects a 24% return on equity, a 16% return on assets, and a 12% return on debt? Ignore taxes.

When taxes are ignored, which of the following can be used to calculate the weighted-average cost of capital?

Those who benefit from the interest tax shield are:

A firm has an expected return on equity of 14% and an after-tax cost of debt of 6%.What debt-equity ratio should be used in order to keep the WACC at 10%?

Calculate the required return on the debt.

A decrease in the possible range of %age stock returns can be achieved by:

Goals and Governance of the Firm

Financial Markets and Institutions

Accounting and Finance

Measuring Corporate Performance

The Time Value of Money

Valuing Bonds

Valuing Stocks

Net Present Value and Other Investment Criteria

Using Discounted Cash-Flow Analysis to Make Investment Decisions

Project Analysis

Introduction to Risk, Return, and the Opportunity Cost of Capital

Risk, Return, and Capital Budgeting

The Weighted-Average Cost of Capital and Company Valuation

Introduction to Corporate Financing and Governance

Venture Capital, Ipos, and Seasoned Offerings

Payout Policy

Long-Term Financial Planning

Short-Term Financial Planning

Working Capital Management

Mergers, Acquisitions, and Corporate Control

International Financial Management

Options

Risk Management

Conclusion

What We Do and Do Not Know About Finance

Filters

How do corporate income taxes modify MM's leverage irrelevance proposition? D.Future interest tax shields are usually valued by discounting at the borrowing rate r_debt.In the special case of permanent debt, PV tax shield = T_c (r_debt x D)/r_debt = T_cD