Exam 16: Assessing Long-Term Debt, Equity, and Capital Structure

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?

Which of the following is a true statement?

All else the same, firms with stable, predictable income streams will able to _____________.

No Nuns Cos. has a 20 percent tax rate and has $100 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 as shown below: 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?

This is a situation that arises when a firm's equity is close to worthless, and equityholders will prefer to invest in overly risky projects with a small chance of success rather than simply paying debtholders their regularly scheduled payments.

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 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 break-even level of EBIT?

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

State the order claimants will be paid according to the absolute priority rule in a Chapter 7 bankruptcy.

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 as shown below: 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?

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

Your company faces a 34% 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 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 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?

Your company faces a 25% 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 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 in either event. What will be the standard deviation in EPS if they switch to the proposed capital structure?

A firm faces a 30% 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?

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 as shown below: 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?

This is a situation that arises when a firm's equity is close to worthless, and equityholders will prefer to not invest in safe projects.