Question 1

Arbitrage refers to:

Accepted Answer

A) the ability to make a profit. 
B) the ability to make a risk-free profit resulting from mispriced securities. 
C) settling of disputes between management and shareholders. 
D) none of the given options. 
A) the ability to make a profit. 
B) the ability to make a risk-free profit resulting from mispriced securities. 
C) settling of disputes between management and shareholders. 
D) none of the given options.

Question 2

Which of the following statements generally gives the correct order in which management choose amongst alternatives to finance projects?

Accepted Answer

A) (1)Retained earnings;(2)ordinary shares;(3)debt;and (4)convertible debt 
B) (1)Retained earnings;(2)debt;(3)convertible debt;and (4)ordinary shares 
C) (1)Retained earnings;(2)convertible debt;(3)ordinary shares;and (4)debt 
D) (1)Convertible debt;(2)ordinary shares;(3)debt;and (4)retained earnings 
A) (1)Retained earnings;(2)ordinary shares;(3)debt;and (4)convertible debt 
B) (1)Retained earnings;(2)debt;(3)convertible debt;and (4)ordinary shares 
C) (1)Retained earnings;(2)convertible debt;(3)ordinary shares;and (4)debt 
D) (1)Convertible debt;(2)ordinary shares;(3)debt;and (4)retained earnings

Question 3

The use of equity financing creates a tax shield that results in a significant reduction in a company's tax liability.

Accepted Answer

A) True 
 B)False

Question 4

Under the MM theorem,capital structure will not change the total value of a firm because:

Accepted Answer

A) EPS is not affected by leverage. 
B) two firms with the same assets but different capital structures are not considered perfect substitutes. 
C) dividend policy is irrelevant. 
D) perfect substitutes should not sell at different prices in the same market. 
A) EPS is not affected by leverage. 
B) two firms with the same assets but different capital structures are not considered perfect substitutes. 
C) dividend policy is irrelevant. 
D) perfect substitutes should not sell at different prices in the same market.

Question 5

A key assumption of the MM arbitrage argument is:

Accepted Answer

A) that business risk is not altered by capital structure. 
B) companies and individuals can borrow at the same interest rate. 
C) financial risk is unaltered by capital structure. 
D) expected return and risk are positively correlated. 
A) that business risk is not altered by capital structure. 
B) companies and individuals can borrow at the same interest rate. 
C) financial risk is unaltered by capital structure. 
D) expected return and risk are positively correlated.

Question 6

Which of the following statements on financial leverage is true?

Accepted Answer

A) Financial leverage has no effect on expected return to ordinary shareholders. 
B) Expected return to ordinary shareholders increases because return on borrowings is expected to exceed the cost of borrowings. 
C) Expected return to ordinary shareholders increases because the return on assets increases. 
D) Financial leverage may have a positive or negative effect on return to ordinary shareholders. 
A) Financial leverage has no effect on expected return to ordinary shareholders. 
B) Expected return to ordinary shareholders increases because return on borrowings is expected to exceed the cost of borrowings. 
C) Expected return to ordinary shareholders increases because the return on assets increases. 
D) Financial leverage may have a positive or negative effect on return to ordinary shareholders.

Question 7

When considering a firm's capital structure,a financial manager must:

Accepted Answer

A) make sure that business conditions are good when changing the level of debt. 
B) balance the benefits of increased expected returns with increased financial risk. 
C) be extra cautious during periods when the rate of return on assets is greater than the interest rate on debt. 
D) seek to reduce debt at all costs. 
A) make sure that business conditions are good when changing the level of debt. 
B) balance the benefits of increased expected returns with increased financial risk. 
C) be extra cautious during periods when the rate of return on assets is greater than the interest rate on debt. 
D) seek to reduce debt at all costs.

Question 8

Miller and Modigliani's Proposition 1 states that the dollar value of a company is independent of its capital structure.

Accepted Answer

A) True 
 B)False

Question 9

The trade-off theory suggests that a company should use as much debt in its capital structure as possible,given the tax advantages of the use of debt financing.

Accepted Answer

A) True 
 B)False

Question 10

Jensen's Free Cash Flow theory argues that the use of debt financing can add value by forcing managers to pay out cash that might otherwise be wasted.

Accepted Answer

A) True 
 B)False

Question 11

Under the MM 'law of conservation of value',a company's cost of capital:

Accepted Answer

A) reaches its lowest value when it operates at its optimal capital structure. 
B) increases as the proportional amount of debt increases. 
C) remains unchanged as the proportional amount of debt increases. 
D) decreases as the proportional amount of debt increases. 
A) reaches its lowest value when it operates at its optimal capital structure. 
B) increases as the proportional amount of debt increases. 
C) remains unchanged as the proportional amount of debt increases. 
D) decreases as the proportional amount of debt increases.

Question 12

Calculate the cost of equity capital from the following data: cost of debt = 12%,D = $0.2 million,E = $0.3 million,and the increment for financial risk = 4%.

Accepted Answer

A) 16.8% 
B) 14.8% 
C) 18.7% 
D) 15.2% 
A) 16.8% 
B) 14.8% 
C) 18.7% 
D) 15.2%

Question 13

The pecking order theory helps to explain why companies:

Accepted Answer

A) pursue a target debt/equity ratio. 
B) issue ordinary shares as a last resort to finance investments. 
C) will issue debt following a substantial increase in its share price. 
D) do not issue new shares. 
A) pursue a target debt/equity ratio. 
B) issue ordinary shares as a last resort to finance investments. 
C) will issue debt following a substantial increase in its share price. 
D) do not issue new shares.

Question 14

Calculate EPS if a company,with 1 million shares with a market price of $4 each and zero debt,decides to buy back 25 per cent of its outstanding shares by borrowing at 10% p.a.Assume current earnings are $0.4 million and taxes do not apply.

Accepted Answer

A) $4 
B) 53.3c 
C) 40c 
D) 66.6c 
A) $4 
B) 53.3c 
C) 40c 
D) 66.6c

Question 15

A limitation of the MM analysis in the absence of taxes is that:

Accepted Answer

A) risky debt is not considered. 
B) the possibility of default on debt is not considered. 
C) there is no cost associated with default on debt. 
D) only risk-free debt is considered. 
A) risky debt is not considered. 
B) the possibility of default on debt is not considered. 
C) there is no cost associated with default on debt. 
D) only risk-free debt is considered.

Question 16

A company's cost of capital is the:

Accepted Answer

A) amount of interest paid on borrowings. 
B) minimum rate of return on assets needed to maintain company value. 
C) rate of return required by shareholders. 
D) bank overdraft rate. 
A) amount of interest paid on borrowings. 
B) minimum rate of return on assets needed to maintain company value. 
C) rate of return required by shareholders. 
D) bank overdraft rate.

Question 17

MM Proposition I states that:

Accepted Answer

A) the value of a company depends on its capital structure. 
B) the value of a company depends on the debt to assets ratio. 
C) the value of a company depends on the debt to total assets ratio. 
D) the value of a company is independent of its capital structure. 
A) the value of a company depends on its capital structure. 
B) the value of a company depends on the debt to assets ratio. 
C) the value of a company depends on the debt to total assets ratio. 
D) the value of a company is independent of its capital structure.

Arbitrage refers to:

Which of the following statements generally gives the correct order in which management choose amongst alternatives to finance projects?

The use of equity financing creates a tax shield that results in a significant reduction in a company's tax liability.

Under the MM theorem,capital structure will not change the total value of a firm because:

A key assumption of the MM arbitrage argument is:

Which of the following statements on financial leverage is true?

When considering a firm's capital structure,a financial manager must:

Miller and Modigliani's Proposition 1 states that the dollar value of a company is independent of its capital structure.

The trade-off theory suggests that a company should use as much debt in its capital structure as possible,given the tax advantages of the use of debt financing.

Jensen's Free Cash Flow theory argues that the use of debt financing can add value by forcing managers to pay out cash that might otherwise be wasted.

Under the MM 'law of conservation of value',a company's cost of capital:

Calculate the cost of equity capital from the following data: cost of debt = 12%,D = $0.2 million,E = $0.3 million,and the increment for financial risk = 4%.

The pecking order theory helps to explain why companies:

Calculate EPS if a company,with 1 million shares with a market price of $4 each and zero debt,decides to buy back 25 per cent of its outstanding shares by borrowing at 10% p.a.Assume current earnings are $0.4 million and taxes do not apply.

A limitation of the MM analysis in the absence of taxes is that:

A company's cost of capital is the:

MM Proposition I states that:

Introduction

Consumption, Investment and the Capital Market

The Time Value of Money: An Introduction to Financial Mathematics

Applying the Time Value of Money to Security Valuation

Project Evaluation: Principles and Methods

The Application of Project Evaluation Methods

Risk and Return

The Capital Market

Sources of Finance: Equity

Sources of Finance: Debt

Payout Policy

Capital Structure Decisions

The Cost of Capital and Taxation Issues in Project Evaluation

Leasing and Other Equipment Finance

Capital Market Efficiency

Futures Contracts

Options and Contingent Claims

Analysis of Takeovers

International Financial Management

Management of Short-Term Assets: Inventory

Management of Short-Term Assets: Liquid Assets and Accounts Receivable

Filters

Exam 12: Principles of Capital Structure

Arbitrage refers to:

Which of the following statements generally gives the correct order in which management choose amongst alternatives to finance projects?

The use of equity financing creates a tax shield that results in a significant reduction in a company's tax liability.

Under the MM theorem,capital structure will not change the total value of a firm because:

A key assumption of the MM arbitrage argument is:

Which of the following statements on financial leverage is true?

When considering a firm's capital structure,a financial manager must:

Miller and Modigliani's Proposition 1 states that the dollar value of a company is independent of its capital structure.

The trade-off theory suggests that a company should use as much debt in its capital structure as possible,given the tax advantages of the use of debt financing.

Jensen's Free Cash Flow theory argues that the use of debt financing can add value by forcing managers to pay out cash that might otherwise be wasted.

Under the MM 'law of conservation of value',a company's cost of capital:

Calculate the cost of equity capital from the following data: cost of debt = 12%,D = $0.2 million,E = $0.3 million,and the increment for financial risk = 4%.

The pecking order theory helps to explain why companies:

Calculate EPS if a company,with 1 million shares with a market price of $4 each and zero debt,decides to buy back 25 per cent of its outstanding shares by borrowing at 10% p.a.Assume current earnings are $0.4 million and taxes do not apply.

A limitation of the MM analysis in the absence of taxes is that:

A company's cost of capital is the:

MM Proposition I states that:

Introduction

Consumption, Investment and the Capital Market

The Time Value of Money: An Introduction to Financial Mathematics

Applying the Time Value of Money to Security Valuation

Project Evaluation: Principles and Methods

The Application of Project Evaluation Methods

Risk and Return

The Capital Market

Sources of Finance: Equity

Sources of Finance: Debt

Payout Policy

Capital Structure Decisions

The Cost of Capital and Taxation Issues in Project Evaluation

Leasing and Other Equipment Finance

Capital Market Efficiency

Futures Contracts

Options and Contingent Claims

Analysis of Takeovers

International Financial Management

Management of Short-Term Assets: Inventory

Management of Short-Term Assets: Liquid Assets and Accounts Receivable

Filters