Question 1

The present value of a perpetual tax shield increases as the firm's tax rate _____ and the amount of principal ____.

Accepted Answer

A)  increases; increases 
B)  increases; decreases 
C)  decreases; decreases 
D)  decreases; increases 
A)  increases; increases 
B)  increases; decreases 
C)  decreases; decreases 
D)  decreases; increases

Question 2

According to MM,restructuring the firm will not change its overall value.

Accepted Answer

A) True 
 B)False

Question 3

Debt may be the preferred form of external financing for many firms because:

Accepted Answer

A)  most firms already have too much equity. 
B)  tax rates on equity are lower. 
C)  debt will not adversely affect the firm's financial ratios. 
D)  equity issuance is considered by investors to be a negative sign. 
A)  most firms already have too much equity. 
B)  tax rates on equity are lower. 
C)  debt will not adversely affect the firm's financial ratios. 
D)  equity issuance is considered by investors to be a negative sign.

Question 4

If interest tax shields are valuable,why don't all tax-paying firms borrow as much as possible?

Accepted Answer

The more they borrow,the higher the odds

Question 5

Suppose I add interest tax shields and costs of financial distress to MM's leverage irrelevance proposition.What's the result?

Accepted Answer

The trade-off theory of optimal capital

Question 6

If the present value of the tax shield equals the present value of the costs of financial distress,then the:

Accepted Answer

A)  firm is using the optimal level of debt. 
B)  firm is paying too high an interest rate. 
C)  firm's market value equals the value of the unlevered firm. 
D)  firm should increase its use of debt. 
A)  firm is using the optimal level of debt. 
B)  firm is paying too high an interest rate. 
C)  firm's market value equals the value of the unlevered firm. 
D)  firm should increase its use of debt.

Question 7

Any financial benefit derived from the interest tax shield accrues to the:

Accepted Answer

A)  bondholders. 
B)  shareholders. 
C)  bondholders and shareholders, equally. 
D)  shareholders and the federal government. 
A)  bondholders. 
B)  shareholders. 
C)  bondholders and shareholders, equally. 
D)  shareholders and the federal government.

Question 8

If a firm's expected return on equity equals its expected return on assets,then the:

Accepted Answer

A)  expected return on debt exceeds the expected return on assets. 
B)  likelihood of financial distress is high. 
C)  firm has too much debt. 
D)  firm has no debt in its capital structure. 
A)  expected return on debt exceeds the expected return on assets. 
B)  likelihood of financial distress is high. 
C)  firm has too much debt. 
D)  firm has no debt in its capital structure.

Question 9

When asked about key factors of debt policy,financial managers commonly mention the tax advantage of debt and the importance of maintaining their credit rating.

Accepted Answer

A) True 
 B)False

Question 10

What happens when firms cannot pay their creditors?

Accepted Answer

A firm that cannot meet its obligations

Question 11

The WACC is used to value:

Accepted Answer

A)  projects with any risk. 
B)  projects with the same risk as the firm's current business. 
C)  projects with the same risk as the firm's debt. 
D)  projects with the same risk as the firm's equity. 
A)  projects with any risk. 
B)  projects with the same risk as the firm's current business. 
C)  projects with the same risk as the firm's debt. 
D)  projects with the same risk as the firm's equity.

Question 12

Loan covenants can ensure that companies will accept all positive-NPV investments and reject negative ones.

Accepted Answer

A) True 
 B)False

Question 13

With the inclusion of taxes,MM I is incorrect and the capital structure of the firm can be important due to:

Accepted Answer

A)  lower tax rates on dividends than on debt. 
B)  higher tax rates on retained earnings than on debt. 
C)  lower tax liability due to interest deductibility. 
D)  higher operating income from less dividends. 
A)  lower tax rates on dividends than on debt. 
B)  higher tax rates on retained earnings than on debt. 
C)  lower tax liability due to interest deductibility. 
D)  higher operating income from less dividends.

Question 14

When additional borrowing causes the probability of financial distress to increase rapidly,the potential costs of distress begin to take a substantial bite out of firm value.

Accepted Answer

A) True 
 B)False

Question 15

Costs of distress are greater when a large amount of __________ affect(s)the prosperity of the firm.

Accepted Answer

A)  intangible assets 
B)  tangible assets 
C)  net working capital 
D)  retained earnings 
A)  intangible assets 
B)  tangible assets 
C)  net working capital 
D)  retained earnings

Question 16

The stability of a firm's operating income is the focus of:

Accepted Answer

A)  financial leverage. 
B)  weighted-average cost of capital. 
C)  capital structure. 
D)  business risk. 
A)  financial leverage. 
B)  weighted-average cost of capital. 
C)  capital structure. 
D)  business risk.

Question 17

If the value of a levered firm is $4,000,000,then the value of the same firm all-equity-financed is:

Accepted Answer

A)  $3,000,000. 
B)  $4,500,000. 
C)  $5,500,000. 
D)  $6,000,000. 
A)  $3,000,000. 
B)  $4,500,000. 
C)  $5,500,000. 
D)  $6,000,000.

Question 18

When corporate taxes are considered,how does leverage affect the WACC?

Accepted Answer

A)  An increase in leverage will be offset by a decrease in equity financing, thus leaving WACC unchanged. 
B)  Changes in leverage will affect the WACC only if the interest rate on debt changes. 
C)  Increased leverage will increase the WACC. 
D)  Increased leverage will decrease the WACC. 
A)  An increase in leverage will be offset by a decrease in equity financing, thus leaving WACC unchanged. 
B)  Changes in leverage will affect the WACC only if the interest rate on debt changes. 
C)  Increased leverage will increase the WACC. 
D)  Increased leverage will decrease the WACC.

Question 19

In the year ending October 2007,Walmart paid out $1,929 million as debt interest.
How much more tax would Walmart have paid if the firm had been entirely equity-financed? What would be the present value of Walmart's interest tax shield if the company planned to keep its borrowing permanently at the 2007 level? Assume an interest rate of 6% and a corporate tax rate of 35%.

Accepted Answer

Walmart's borrowing reduced taxable prof

Question 20

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 
A)  $300,000 
B)  $857,143 
C)  $3,000,000 
D)  $3,750,000

Exam 16: Debt Policy

The present value of a perpetual tax shield increases as the firm's tax rate _____ and the amount of principal ____.

According to MM,restructuring the firm will not change its overall value.

Debt may be the preferred form of external financing for many firms because:

If interest tax shields are valuable,why don't all tax-paying firms borrow as much as possible?

Suppose I add interest tax shields and costs of financial distress to MM's leverage irrelevance proposition.What's the result?

If the present value of the tax shield equals the present value of the costs of financial distress,then the:

Any financial benefit derived from the interest tax shield accrues to the:

If a firm's expected return on equity equals its expected return on assets,then the:

When asked about key factors of debt policy,financial managers commonly mention the tax advantage of debt and the importance of maintaining their credit rating.

What happens when firms cannot pay their creditors?

The WACC is used to value:

Loan covenants can ensure that companies will accept all positive-NPV investments and reject negative ones.

With the inclusion of taxes,MM I is incorrect and the capital structure of the firm can be important due to:

When additional borrowing causes the probability of financial distress to increase rapidly,the potential costs of distress begin to take a substantial bite out of firm value.

Costs of distress are greater when a large amount of __________ affect(s)the prosperity of the firm.

The stability of a firm's operating income is the focus of:

If the value of a levered firm is $4,000,000,then the value of the same firm all-equity-financed is:

When corporate taxes are considered,how does leverage affect the WACC?

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?

Goals and Governance of the Corporation

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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

How Corporations Raise Venture Capital and Issue Securities

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The present value of a perpetual tax shield increases as the firm's tax rate _ and the amount of principal .