Exam 17: Capital Structure Management in Practice

What are the effects of leverage on shareholder wealth and the cost of capital?

In the analysis of financial leverage, all of the following are referred to as fixed charges EXCEPT ____.

Financial leverage causes a firm's ____ to change at a rate greater than the change in ____.

Kermit's Hardware's (KH) fixed operating costs are $20.8 million, and its variable cost ratio is 0.30. The firm has $10 million in bonds outstanding with a coupon interest rate of 9%. KH has 200,000 shares of common stock outstanding. The firm has revenues of $32.2 million, and its marginal tax rate is 40%. Compute KH's degree of financial leverage.

Illinois Tool Company's (ITC) fixed operating costs are $1,260,000, and its variable cost ratio (i.e., variable costs as a fraction of sales) is 0.70. The firm has $3,000,000 in bonds outstanding at an interest rate of 8%. ITC has 30,000 shares of $5 preferred stock and 150,000 shares of common stock outstanding. ITC is in the 50% corporate income tax bracket. Forecasted sales for next year are $9 million. What is ITC's degree of combined leverage at a sales level of $10 million?

Illinois Tool Company's (ITC) fixed operating costs are $1,260,000, and its variable cost ratio (i.e., variable costs as a fraction of sales) is 0.70. The firm has $3,000,000 in bonds outstanding at an interest rate of 8%. ITC has 30,000 shares of $5 preferred stock and 150,000 shares of common stock outstanding. ITC is in the 50% corporate income tax bracket. Forecasted sales for next year are $9 million. What is ITC's degree of financial leverage at an EBIT level of $1,440,000?

A DFL (degree of financial leverage) of 3.0 indicates a 27% increase in EPS is the result of a(n) ____ increase in EBIT.

Given the following financial data for Boston Technology, compute the firm's degree of combined leverage. Assume a marginal tax rate of 40%. 2010 2011 Sales \ 700,000 \ 760,000 Fixed costs 175,000 190,000 Variable costs 406,000 448,000 EBIT 119,000 122,000 Interest 42,000 46,000 Shares outstanding 100,000 102,000

The total variability of the firm's EPS associated with a change in sales is an indication of combined leverage and is best measured by ____.

Centex, a producer of telephone systems for small businesses, has current sales of $43 million and variable operating costs of $27.95 million. Centex expects to increase sales in the coming year by 15% while keeping fixed operating costs constant at $9.1 million. What is the DOL for Centex?

The use of increasing amounts of combined leverage ____ the risk of financial distress.

The degree of combined leverage is equal to the degree of operating leverage ____ the degree of financial leverage.

Alace is an all-equity firm with 10 million shares outstanding and is evaluating two alternative financing plans. With the first plan, Alace will sell 1 million shares of common stock at $15 each. Under the second plan, the firm would sell $15 million of 12% long-term debt. If Alace has a marginal tax rate of 35%, what is the EBIT-EPS indifference point?

River Rafts has determined that its expected EBIT for the coming year is $8.3 million. The EBIT is approximately normally distributed with a standard deviation of $5.1 million. If River Rafts has $1.9 million in annual interest payments, what is the probability that the firm will have negative earnings?

Chemex has a cash and marketable securities balance of $200 million. Management expects free cash flows of $320 million during the coming year. If management is considering a restructuring of its capital structure that would add an additional $350 million of annual fixed financial charges, what is the expected cash balance at the end of the year?

Last year Avator's operating income (EBIT) increased by 22% while its dollar sales increased by 15%. What is Avator's degree of operating leverage (DOL)?

Last year Alpine Growers experienced a 34% increase in earnings per share on 11% increase in sales. If management knows that Alpine's DOL is 1.5, what is its DFL?

In evaluating degree of operating leverage , it is best that the firm's DOL is ____.

In EBIT-EPS analysis, the indifference point is found at the point where ____ for the two alternative financing plans is (are) equal.

A firm that employs a relatively large proportion of debt and preferred stock in its capital structure will have a relatively ____ degree of financial leverage.