Question 1

The total value of the levered firm exceeds the value of the firm without leverage due to the ________ value of the tax savings from debt.

Accepted Answer

A)  market 
B)  book 
C)  present 
D)  current 
A)  market 
B)  book 
C)  present 
D)  current

Question 2

Use the information for the question(s) below.
Flagstaff Enterprises is expected to have free cash flow in the coming year of $8 million, and this free cash flow is expected to grow at a rate of 3% per year thereafter. Flagstaff has an equity cost of capital of 13%, a debt cost of capital of 7%, and it is in the 35% corporate tax bracket.
-If Flagstaff maintains a debt to equity ratio of 1,then Flagstaff's pre-tax WACC is closest to:

Accepted Answer

A)  11.0% 
B)  10.5% 
C)  10.0% 
D)  9.0% 
A)  11.0% 
B)  10.5% 
C)  10.0% 
D)  9.0%

Question 3

Which of the following statements is false?

Accepted Answer

A)  Unlike taxes on capital gains or interest income, which are paid annually, taxes on dividends are paid only at the time the investor sells the stock. 
B)  Deferring the payment of capital gains taxes lowers the present value of the taxes, which can be interpreted as a lower effective capital gains tax rate. 
C)  Investors with longer holding periods or with accrued losses face a lower tax rate on equity income, decreasing the effective tax advantage of debt. 
D)  Investors with accrued losses that they can use to offset gains face a zero effective capital gains tax rate. 
A)  Unlike taxes on capital gains or interest income, which are paid annually, taxes on dividends are paid only at the time the investor sells the stock. 
B)  Deferring the payment of capital gains taxes lowers the present value of the taxes, which can be interpreted as a lower effective capital gains tax rate. 
C)  Investors with longer holding periods or with accrued losses face a lower tax rate on equity income, decreasing the effective tax advantage of debt. 
D)  Investors with accrued losses that they can use to offset gains face a zero effective capital gains tax rate.

Question 4

Which of the following statements is false?

Accepted Answer

A)  Even after adjusting for personal taxes, the value of an unlevered firm exceeds the value of a levered firm, and there is a tax advantage to using debt financing. 
B)  In Modigliani and Miller's setting of perfect capital markets, firms could use any combination of debt and equity to finance their investments without changing the value of the firm. 
C)  When firms raise new capital from investors, they do so primarily by issuing debt. 
D)  In most years aggregate equity issues are negative, meaning that firms are reducing the amount of equity outstanding by buying shares. 
A)  Even after adjusting for personal taxes, the value of an unlevered firm exceeds the value of a levered firm, and there is a tax advantage to using debt financing. 
B)  In Modigliani and Miller's setting of perfect capital markets, firms could use any combination of debt and equity to finance their investments without changing the value of the firm. 
C)  When firms raise new capital from investors, they do so primarily by issuing debt. 
D)  In most years aggregate equity issues are negative, meaning that firms are reducing the amount of equity outstanding by buying shares.

Question 5

Use the table for the question(s) below.
Consider the following income statement for Kroger Inc. (all figures in $ millions):
  
-The interest rate tax shield for Kroger in 2006 is closest to:

Accepted Answer

A)  $187 million 
B)  $332 million 
C)  $534 million 
D)  $179 million 
A)  $187 million 
B)  $332 million 
C)  $534 million 
D)  $179 million

Question 6

MJ Enterprises has 50 million shares outstanding with a market price of $25 per share and no debt.MJ has had consistently stable earnings,and pays a 35% tax rate.Management plans to borrow $500 million on a permanent basis through a leveraged recapitalization in which they would use the borrowed funds to repurchase outstanding shares.Calculate MJ's share price following announcement of the recapitalization plan.

Accepted Answer

V^U = (50 million shares)× $25 per share =

Question 7

Which of the following statements is false?

Accepted Answer

A)  Personal taxes have the potential to offset some of the corporate tax benefits of leverage. 
B)  The actual interest tax shield depends on the reduction in the total taxes (both corporate and personal) that are paid. 
C)  The amount of money an investor will pay for a security ultimately depends on the benefits the investor will receive-namely, the cash flows the investor will receive before all taxes have been paid. 
D)  Just like corporate taxes, personal taxes reduce the cash flows to investors and diminish firm value. 
A)  Personal taxes have the potential to offset some of the corporate tax benefits of leverage. 
B)  The actual interest tax shield depends on the reduction in the total taxes (both corporate and personal) that are paid. 
C)  The amount of money an investor will pay for a security ultimately depends on the benefits the investor will receive-namely, the cash flows the investor will receive before all taxes have been paid. 
D)  Just like corporate taxes, personal taxes reduce the cash flows to investors and diminish firm value.

Question 8

Use the information for the question(s) below.
Flagstaff Enterprises is expected to have free cash flow in the coming year of $8 million, and this free cash flow is expected to grow at a rate of 3% per year thereafter. Flagstaff has an equity cost of capital of 13%, a debt cost of capital of 7%, and it is in the 35% corporate tax bracket.
-If Flagstaff currently maintains a .5 debt to equity ratio,then the value of Flagstaff as an all equity firm would be closest to:

Accepted Answer

A)  $80 million 
B)  $100 million 
C)  $73 million 
D)  $115 million 
A)  $80 million 
B)  $100 million 
C)  $73 million 
D)  $115 million

Question 9

Use the table for the question(s) below.
Consider the following top federal tax rates in the United States:
Personal Tax Rates
  
-Assuming an average dividend payout ratio of 50%,the effective tax advantage for debt (τ*)was closest to:

Accepted Answer

A)  0% 
B)  1% 
C)  5% 
D)  7% 
A)  0% 
B)  1% 
C)  5% 
D)  7%

Question 10

Consider the following formula: VL = VU +   The term   represents

Accepted Answer

A)  the value of firm with leverage. 
B)  the present value of the interest tax shield. 
C)  the present value of the future interest payments. 
D)  the interest tax shield each year. 
A)  the value of firm with leverage. 
B)  the present value of the interest tax shield. 
C)  the present value of the future interest payments. 
D)  the interest tax shield each year.

Question 11

Which of the following statements is false?

Accepted Answer

A)  Given a 35% corporate tax rate, for every $1 in new permanent debt that the firm issues, the value of the firm increases by $0.65. 
B)  The firm's marginal tax rate may fluctuate due to changes in the tax code and changes in the firm's income bracket. 
C)  Many large firms have a policy of maintaining a certain amount of debt on their balance sheets. 
D)  Typically, the level of future interest payments varies due to changes the firm makes in the amount of debt outstanding, changes in the interest rate on that debt, and the risk that the firm may default and fail to make an interest payment. 
A)  Given a 35% corporate tax rate, for every $1 in new permanent debt that the firm issues, the value of the firm increases by $0.65. 
B)  The firm's marginal tax rate may fluctuate due to changes in the tax code and changes in the firm's income bracket. 
C)  Many large firms have a policy of maintaining a certain amount of debt on their balance sheets. 
D)  Typically, the level of future interest payments varies due to changes the firm makes in the amount of debt outstanding, changes in the interest rate on that debt, and the risk that the firm may default and fail to make an interest payment.

Question 12

Use the information for the question(s) below.
Flagstaff Enterprises is expected to have free cash flow in the coming year of $8 million, and this free cash flow is expected to grow at a rate of 3% per year thereafter. Flagstaff has an equity cost of capital of 13%, a debt cost of capital of 7%, and it is in the 35% corporate tax bracket.
-Your firm currently has $250 million in debt outstanding with an 8% interest rate.The terms of the loan require the firm to repay $50 million of the balance each year.Suppose that the marginal corporate tax rate is 35% and that the interest tax shields have the same risk as the loan.What is the present value of the interest tax shields from this debt?

Accepted Answer

@#IMG-DLM& Interest expense = beginning

Question 13

Use the information for the question(s) below.
Flagstaff Enterprises is expected to have free cash flow in the coming year of $8 million, and this free cash flow is expected to grow at a rate of 3% per year thereafter. Flagstaff has an equity cost of capital of 13%, a debt cost of capital of 7%, and it is in the 35% corporate tax bracket.
-If Flagstaff currently maintains a .8 debt to equity ratio,then calculate the value of Flagstaff's interest tax shield.

Accepted Answer

r_wacc = @#IMG-DLM& r_E + @#IMG-DLM& r_D_{(Pre tax)} r_wacc = @#IMG-DLM& .13 + @#IMG-DLM& .07 = .103333 V^{U =}

Question 14

Use the table for the question(s) below.
Consider the following top federal tax rates in the United States:
Personal Tax Rates
  
-Assuming an average dividend payout ratio of 50%,the effective tax rate for equity holders was closest to:

Accepted Answer

A)  69% 
B)  65% 
C)  29% 
D)  15% 
A)  69% 
B)  65% 
C)  29% 
D)  15%

Question 15

The interest tax shield is the ________ amount that a firm would have paid in taxes if it did not have leverage.

Accepted Answer

A)  prepaid 
B)  expense 
C)  additional 
D)  interest 
A)  prepaid 
B)  expense 
C)  additional 
D)  interest

Question 16

Use the information for the question(s) below.
Rosewood Industries has EBIT of $450 million, interest expense of $175 million, and a corporate tax rate of 35%.
-The amount of Rosewood's interest tax shield is closest to:

Accepted Answer

A)  $115 million 
B)  $290 million 
C)  $175 million 
D)  $60 million 
A)  $115 million 
B)  $290 million 
C)  $175 million 
D)  $60 million

Question 17

After the recapitalization,the value of KD's levered equity is closest to:

Accepted Answer

A)  $670 million 
B)  $400 million 
C)  $330 million 
D)  $470 million 
A)  $670 million 
B)  $400 million 
C)  $330 million 
D)  $470 million

Question 18

Consider the following formula: rwacc =   rE +   rD -   rDτc
The terms   rE +   rD represent

Accepted Answer

A)  the after-tax WACC. 
B)  the reduction due to equity financing. 
C)  the before-tax WACC. 
D)  the reduction due to the interest tax shield. 
A)  the after-tax WACC. 
B)  the reduction due to equity financing. 
C)  the before-tax WACC. 
D)  the reduction due to the interest tax shield.

Question 19

Consider the following formula: τ* =   The term τ* is

Accepted Answer

A)  the effective tax advantage of debt. 
B)  the effective personal tax rate on interest income. 
C)  the effective personal tax rate on equity. 
D)  the effective corporate tax rate on income. 
A)  the effective tax advantage of debt. 
B)  the effective personal tax rate on interest income. 
C)  the effective personal tax rate on equity. 
D)  the effective corporate tax rate on income.

Question 20

The income that would be available to equity holders in 2005 if Kroger was not levered is closest to:

Accepted Answer

A)  $290 million 
B)  $745 million 
C)  $847 million 
D)  $550 million 
A)  $290 million 
B)  $745 million 
C)  $847 million 
D)  $550 million

Exam 18: Debt and Taxes

The total value of the levered firm exceeds the value of the firm without leverage due to the ________ value of the tax savings from debt.

Which of the following statements is false?

Which of the following statements is false?

Use the table for the question(s) below. Consider the following income statement for Kroger Inc. (all figures in $ millions): -The interest rate tax shield for Kroger in 2006 is closest to:

Which of the following statements is false?

Use the table for the question(s) below. Consider the following top federal tax rates in the United States: Personal Tax Rates -Assuming an average dividend payout ratio of 50%,the effective tax advantage for debt (τ*)was closest to:

Consider the following formula: VL = VU + The term represents

Which of the following statements is false?

Use the table for the question(s) below. Consider the following top federal tax rates in the United States: Personal Tax Rates -Assuming an average dividend payout ratio of 50%,the effective tax rate for equity holders was closest to:

The interest tax shield is the ________ amount that a firm would have paid in taxes if it did not have leverage.

Use the information for the question(s) below. Rosewood Industries has EBIT of $450 million, interest expense of $175 million, and a corporate tax rate of 35%. -The amount of Rosewood's interest tax shield is closest to:

After the recapitalization,the value of KD's levered equity is closest to:

Consider the following formula: rwacc = rE + rD - rDτc The terms rE + rD represent

Consider the following formula: τ* = The term τ* is

The income that would be available to equity holders in 2005 if Kroger was not levered is closest to:

The Corporation

Introduction to Financial Statement Analysis

Arbitrage and Financial Decision Making

The Time Value of Money

Interest Rates

Valuing Bonds

Valuing Stocks

Investment Decision Rules

Fundamentals of Capital Budgeting

Capital Markets and the Pricing of Risk

Optimal Portfolio Choice and the Capital Asset Pricing Model

Estimating the Cost of Capital

Investor Behaviour and Capital Market Efficiency

Financial Options

Option Valuation

Real Options

Capital Structure in a Perfect Market

Financial Distress, managerial Incentives, and Information

Payout Policy

Capital Budgeting and Valuation With Leverage

Valuation and Financial Modelling: a Case Study

The Mechanics of Raising Equity Capital

Debt Financing

Leasing

Working Capital Management

Short-Term Financial Planning

Mergers and Acquisitions

Corporate Governance

Risk Management

International Corporate Finance

Filters

Consider the following formula: V_L = V_U + The term represents

Consider the following formula: r_wacc = r_E + r_D - r_Dτ_c The terms r_E + r_D represent