Exam 15: CAP Structure

Companies HD and LD have identical tax rates, total assets, and basic earning power ratios, and their basic earning power exceeds their before-tax cost of debt, rd.However, Company HD has a higher debt ratio and thus more interest expense than Company LD.Which of the following statements is CORRECT?

the text indicates, a firm's financial risk has identifiable market risk and diversifiable risk components.

Enterprises has a levered beta of 1.10, its capital structure consists of 40% debt and 60% equity, and its tax rate is 40%.What would Ang's beta be if it used no debt, i.e., what is its unlevered beta?

debt financing is used, which of the following is CORRECT?

firm's capital structure does not affect its calculated free cash flows, because FCF reflects only operating cash flows.

assume that BB is considering changing from its original capital structure to a new capital structure with 45% debt and 55% equity.This results in a weighted average cost of capital equal to 10.4% and a new value of operations of $576,923.Assume BB raises $259,615 in new debt and purchases T-bills to hold until it makes the stock repurchase.What is the stock price per share immediately after issuing the debt but prior to the repurchase?

Financial risk refers to the extra risk stockholders bear as a result of using debt as compared with the risk they would bear if no debt were used.

assume that AJC is considering changing from its original capital structure to a new capital structure that results in a stock price of $64 per share.The resulting capital structure would have a $336,000 total market value of equity and a $504,000 market value of debt.How many shares would AJC repurchase in the recapitalization?

assume that BB is considering changing from its original capital structure to a new capital structure with 45% debt and 55% equity.This results in a weighted average cost of capital equal to 10.4% and a new value of operations of $576,923.Assume BB raises $259,615 in new debt and purchases T-bills to hold until it makes the stock repurchase.BB then sells the T-bills and uses the proceeds to repurchase stock.How many shares remain after the repurchase, and what is the stock price per share immediately after the repurchase?

Simon Software Co.is trying to estimate its optimal capital structure.Right now, Simon has a capital structure that consists of 20% debt and 80% equity, based on market values.(Its D/S ratio is 0.25.) The risk-free rate is 6% and the market risk premium, rM - rRF, is 5%.Currently the company's cost of equity, which is based on the CAPM, is 12% and its tax rate is 40%.What would be Simon's estimated cost of equity if it were to change its capital structure to 50% debt and 50% equity?

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

Which of the following statements best describes the optimal capital structure?

assume that AJC is considering changing from its original capital structure to a new capital structure with 50% debt and 50% equity.If it makes this change, its resulting market value would be $820,000.What would be its new stock price per share?

Michaely Inc.is an all-equity firm with 200,000 shares outstanding.It has $2,000,000 of EBIT, which is expected to remain constant in the future.The company pays out all of its earnings, so earnings per share (EPS)The company is considering issuing $5,000,000 of 10.0% bonds and using the proceeds to repurchase stock.The risk-free rate is 6.5%, the market risk premium is 5.0%, and the beta is currently 0.90, but the CFO believes beta would rise to 1.10 if the recapitalization occurs. Assuming that the shares can be repurchased at the price that existed prior to the recapitalization, what would the price be following the recapitalization?

A has a higher degree of business risk than Firm B.Firm A can offset this by using less financial leverage.Therefore, the variability of both firms' expected EBITs could actually be identical.

is considering moving to a capital structure that is comprised of 30% debt and 70% equity, based on market values.The debt would have an interest rate of 8%.The new funds would be used to repurchase stock.It is estimated that the increase in risk resulting from the added leverage would cause the required rate of return on equity to rise to 12%.If this plan were carried out, what would be PP's new value of operations?

Whenever a firm borrows money, it is using financial leverage.

a firm utilizes debt financing, an X% decline in earnings before interest and taxes (EBIT) will result in a decline in earnings per share that is larger than X.

Vafeas Inc.'s capital structure consists of 80% debt and 20% common equity, its beta is 1.60, and its tax rate is 35%.However, the CFO thinks the company has too much debt, and he is considering moving to a capital structure with 40% debt and 60% equity.The risk-free rate is 5.0% and the market risk premium is 6.0%.By how much would the capital structure shift change the firm's cost of equity?