Exam 15: Capital Structure: Limits to the Use of Debt

Dairy Isle has a value of $59,000 in a good economy and $48,000 in a recession.The firm has $50,000 of debt.The probability of a recession is 32 percent.The firm is considering a project that would change the firm values to $63,000 in a good economy and $46,000 in a recession.Which one of these statements correctly describes the effects of this project?

The free cash flow hypothesis supports

Custer's has bonds outstanding with a face value of $98,000 that are selling at par.It also has 12,000 shares of stock outstanding that are selling for $25.90 a share.The all-equity value of the firm is $398,000.The tax rate is 35 percent.By what amount has the value of the firm been decreased by the expected bankruptcy costs? Assume there are no other claims on the firm.

Bart's Mart will have a value of $59,000 if the economy does well this next year and a value of $52,000 if the economy does poorly.The probability of a good economy is 72 percent.The firm owes its bondholders $12,000.What is the market value of the firm if it only operates for one more year?

Kat owns and manages a small all-equity firm.If she works 40 hours a week,the firm's annual EBIT will be $38,000.If she increases her hours to 45 a week,EBIT will increase to $43,000.The firm has a current value of $210,000.Kat wants to expand the business and needs $76,000 to do so.The firm can borrow the needed funds at an interest rate of 6.7 percent,or it can issue equity.Ignore taxes.Kat will prefer

A firm is technically insolvent when

Which of the following are common loan covenants? Assume each item applies only during the term of the loan. I.Limit on future borrowing II)Requirement that the borrower maintains a minimum stated level of net working capital III)Limit on any sales or switches of assets IV)Limit on the amount of dividends that can be paid

Which one of the following statements is correct concerning a Chapter 7 bankruptcy?

The Sawmill expects to generate a cash flow of $59,000 next year if the economy booms and $46,000 if it does not.The probability of a boom is 20 percent.The firm has debt of $52,000 that is due in 1 year and has a current market value of $48,700.The firm plans to close after this coming year.The current promised pretax return on debt is ________ percent,and the expected pretax return on debt is ________ percent.

The explicit and implicit costs associated with corporate default are referred to as the ________ costs of a firm.

Which one of these relationships will exist if a firm is operating under its optimal capital structure?

Cool Refreshments has bonds outstanding with a face value of $211,000 that are selling at par.It also has 14,000 shares of stock outstanding that are selling for $16.20 a share.The all-equity value of the firm is $408,000.The tax rate is 35 percent.What is the value of the financial distress costs? Assume there are no other claims on the firm.

The optimal capital structure of a firm ________ the marketed claims and ________ the nonmarketed claims against the cash flows of the firm.

A valuable firm will tend to:

Which one of the following is true?

In a world with corporate taxes,MM theory implies that that all firms should

The optimal debt-equity ratio tends to

Conflicts of interest between stockholders and bondholders are known as

The legal proceeding for liquidating or reorganizing a firm operating in default is called a

ATC has a value of $98,000 in a normal economy and $87,000 in a recession.The firm has $90,000 of debt.The probability of a recession is 18 percent.The firm is considering a project that would change the firm values to $105,000 in a good economy and $92,000 in a recession.If the firm accepts this project,the firm value will ________ and shareholder value will ________.