Question 1

Which of the following statements is correct?

Accepted Answer

A)  Leverage reduces the risk of equity even when there is no risk that the firm will default. 
B)  Leverage increases the risk of debt even when there is no risk that the firm will default. 
C)  Leverage increases the risk of equity even when there is no risk that the firm will default. 
D)  Leverage reduces the risk of debt even when there is no risk that the firm will default. 
A)  Leverage reduces the risk of equity even when there is no risk that the firm will default. 
B)  Leverage increases the risk of debt even when there is no risk that the firm will default. 
C)  Leverage increases the risk of equity even when there is no risk that the firm will default. 
D)  Leverage reduces the risk of debt even when there is no risk that the firm will default.

Question 2

Use the information for the question(s) below.
Consider a project with free cash flows in one year of $90,000 in a weak economy or $117,000 in a strong economy, with each outcome being equally likely. The initial investment required for the project is $80,000, and the project's cost of capital is 15%. The risk-free interest rate is 5%.
-Suppose that to raise the funds for the initial investment the firm borrows $40,000 at the risk free rate and issues new equity to cover the remainder.In this situation,the value of the firm's levered equity from the project is closest to:

Accepted Answer

A)  $0 
B)  $50,000 
C)  $90,000 
D)  $40,000 
A)  $0 
B)  $50,000 
C)  $90,000 
D)  $40,000

Question 3

Consider the following equation: βU =   βE +   βD
The term   in the equation is

Accepted Answer

A)  the required return on the firm's equity. 
B)  the same as the beta of the firm's assets. 
C)  equal to zero if the firm's debt is riskless. 
D)  the proportion of the firm financed with equity. 
A)  the required return on the firm's equity. 
B)  the same as the beta of the firm's assets. 
C)  equal to zero if the firm's debt is riskless. 
D)  the proportion of the firm financed with equity.

Question 4

Use the information for the question(s) below.
Luther is a successful logistical services firm that currently has $5 billion in cash. Luther has decided to use this cash to repurchase shares from its investors, and has already announced the stock repurchase plan. Currently Luther is an all equity firm with 1.25 billion shares outstanding. Luther's shares are currently trading at $20 per share.
-After the repurchase how many shares will Luther have outstanding?

Accepted Answer

A)  0.75 billion 
B)  1.0 billion 
C)  1.1 billion 
D)  1.2 billion 
A)  0.75 billion 
B)  1.0 billion 
C)  1.1 billion 
D)  1.2 billion

Question 5

Which of the following statements is false?

Accepted Answer

A)  Investors can alter the leverage choice of the firm to suit their personal tastes either by borrowing and reducing leverage or by holding bonds and adding more leverage. 
B)  On the market value balance sheet the total value of all securities issued by the firm must equal the total value of the firm's assets. 
C)  The market value balance sheet captures the idea that value is created by a firm's choice of assets and investments. 
D)  One application of MM Proposition I is the useful device known as the market value balance sheet of the firm. 
A)  Investors can alter the leverage choice of the firm to suit their personal tastes either by borrowing and reducing leverage or by holding bonds and adding more leverage. 
B)  On the market value balance sheet the total value of all securities issued by the firm must equal the total value of the firm's assets. 
C)  The market value balance sheet captures the idea that value is created by a firm's choice of assets and investments. 
D)  One application of MM Proposition I is the useful device known as the market value balance sheet of the firm.

Question 6

Use the information for the question(s) below.
Consider a project with free cash flows in one year of $90,000 in a weak economy or $117,000 in a strong economy, with each outcome being equally likely. The initial investment required for the project is $80,000, and the project's cost of capital is 15%. The risk-free interest rate is 5%.
-Suppose that you borrow only $60,000 in financing the project.According to MM Proposition II,the firm's equity cost of capital will be closest to:

Accepted Answer

A)  45% 
B)  30% 
C)  25% 
D)  35% 
A)  45% 
B)  30% 
C)  25% 
D)  35%

Question 7

Use the information for the question(s) below.
Consider a project with free cash flows in one year of $90,000 in a weak economy or $117,000 in a strong economy, with each outcome being equally likely. The initial investment required for the project is $80,000, and the project's cost of capital is 15%. The risk-free interest rate is 5%.
-Sisyphean Bolder Movers Incorporated has no debt,a total equity capitalization of $50 billion,and a beta of 2.0.Included in Sisyphean's assets are $12 billion in cash and risk-free securities.Calculate Sisyphean's enterprise value and unlevered cost of equity considering the fact that Sisyphean's cash is risk-free.

Accepted Answer

Enterprise value = market valu

Question 8

Use the information for the question(s) below.
Rockwood Enterprises is currently an all equity firm and has just announced plans to expand their current business. In order to fund this expansion, Rockwood will need to raise $100 million in new capital. After the expansion, Rockwood is expected to produce earnings before interest and taxes of $50 million per year in perpetuity. Rockwood has already announced the planned expansion, but has not yet determined how best to fund the expansion. Rockwood currently has 16 million shares outstanding and following the expansion announcement these shares are trading at $25 per share. Rockwood has the ability to borrow at a rate of 5% or to issue new equity at $25 per share.
-Show mathematically that the stock price of Rockwood does not depend on whether they issue new stock or borrow to fund their expansion.

Accepted Answer

First,since the project is already annou

Question 9

Use the information for the question(s) below.
Rockwood Enterprises is currently an all equity firm and has just announced plans to expand their current business. In order to fund this expansion, Rockwood will need to raise $100 million in new capital. After the expansion, Rockwood is expected to produce earnings before interest and taxes of $50 million per year in perpetuity. Rockwood has already announced the planned expansion, but has not yet determined how best to fund the expansion. Rockwood currently has 16 million shares outstanding and following the expansion announcement these shares are trading at $25 per share. Rockwood has the ability to borrow at a rate of 5% or to issue new equity at $25 per share.
-If Rockwood finances their expansion by issuing new stock,what will Rockwood's cost of equity capital be?

Accepted Answer

A)  12% 
B)  15% 
C)  8% 
D)  10% 
A)  12% 
B)  15% 
C)  8% 
D)  10%

Question 10

Use the information for the question(s) below.
Consider a project with free cash flows in one year of $90,000 in a weak economy or $117,000 in a strong economy, with each outcome being equally likely. The initial investment required for the project is $80,000, and the project's cost of capital is 15%. The risk-free interest rate is 5%.
-Suppose that you borrow only $30,000 in financing the project.According to MM Proposition II,the firm's equity cost of capital will be closest to:

Accepted Answer

A)  21% 
B)  15% 
C)  20% 
D)  25% 
A)  21% 
B)  15% 
C)  20% 
D)  25%

Question 11

With perfect capital markets,leverage has ________ effect on firm value or the firm's overall cost of capital.

Accepted Answer

A)  zero 
B)  a positive 
C)  a negative 
D)  an unpredictable 
A)  zero 
B)  a positive 
C)  a negative 
D)  an unpredictable

Question 12

Use the information for the question(s) below.
Assume that Rose Corporation's (RC) EBIT is not expected to grow in the future and that all earnings are paid out as dividends. RC is currently an all equity firm. It expects to generate earnings before interest and taxes (EBIT) of $6 million over the next year. Currently RC has 5 million shares outstanding and its stock is trading for a price of $12.00 per share. RC is considering borrowing $12 million at a rate of 6% and using the proceeds to repurchase shares at the current price of $12.00.
-Following the borrowing of $12 million and the subsequent share repurchase,the value of a share for RC is closest to:

Accepted Answer

A)  $14.00 
B)  $13.20 
C)  $12.00 
D)  $10.80 
A)  $14.00 
B)  $13.20 
C)  $12.00 
D)  $10.80

Question 13

Use the information for the question(s) below.
Consider a project with free cash flows in one year of $90,000 in a weak economy or $117,000 in a strong economy, with each outcome being equally likely. The initial investment required for the project is $80,000, and the project's cost of capital is 15%. The risk-free interest rate is 5%.
-Suppose that you borrow only $45,000 in financing the project.According to MM proposition II,calculate the firm's equity cost of capital.

Accepted Answer

PV(equity cash flows - unlever

Question 14

Which of the following statements is false?

Accepted Answer

A)  As long as investors can borrow or lend at the same interest rate as the firm, homemade leverage is a perfect substitute for the use of leverage by the firm. 
B)  When investors use leverage in their own portfolios to adjust the leverage choice made by the firm, we say that they are using homemade leverage. 
C)  The value of the firm is determined by the present value of the cash flows from its current and future investments. 
D)  The investor can re-create the payoffs of unlevered equity by borrowing and using the proceeds to purchase the equity of the firm. 
A)  As long as investors can borrow or lend at the same interest rate as the firm, homemade leverage is a perfect substitute for the use of leverage by the firm. 
B)  When investors use leverage in their own portfolios to adjust the leverage choice made by the firm, we say that they are using homemade leverage. 
C)  The value of the firm is determined by the present value of the cash flows from its current and future investments. 
D)  The investor can re-create the payoffs of unlevered equity by borrowing and using the proceeds to purchase the equity of the firm.

Question 15

Use the information for the question(s) below.
Consider a project with free cash flows in one year of $90,000 in a weak economy or $117,000 in a strong economy, with each outcome being equally likely. The initial investment required for the project is $80,000, and the project's cost of capital is 15%. The risk-free interest rate is 5%.
-Two separate firms are considering investing in this project.Firm Unlevered plans to fund the entire $80,000 investment using equity,while Firm Levered plans to borrow $45,000 at the risk-free rate and use equity to finance the remainder of the initial investment.Construct a table detailing the percentage returns to the equity holders of both the levered and unlevered firms for both the weak and strong economy.

Accepted Answer

@#IMG-DLM& PV(equity cash flows)= @#IMG-DLM& = $90,000
C/F (

Question 16

Which of the following statements is false?

Accepted Answer

A)  When a firm issues new shares that account for a significant percentage of its outstanding shares, the transaction is called a leveraged recapitalization. 
B)  MM Proposition I applies to capital structure decisions made at any time during the life of the firm. 
C)  By choosing positive-NPV projects that are worth more than their initial investment, the firm can enhance its value. 
D)  Holding fixed the cash flows generated by the firm's assets, the choice of capital structure does not change the value of the firm. 
A)  When a firm issues new shares that account for a significant percentage of its outstanding shares, the transaction is called a leveraged recapitalization. 
B)  MM Proposition I applies to capital structure decisions made at any time during the life of the firm. 
C)  By choosing positive-NPV projects that are worth more than their initial investment, the firm can enhance its value. 
D)  Holding fixed the cash flows generated by the firm's assets, the choice of capital structure does not change the value of the firm.

Question 17

With perfect capital markets,a firm's WACC is ________ its capital structure and is ________ its equity cost of capital if it is unlevered,which matches the cost of capital of its assets.

Accepted Answer

A)  independent of, equal to 
B)  dependent on, equal to 
C)  independent of, greater than 
D)  independent of, smaller than 
A)  independent of, equal to 
B)  dependent on, equal to 
C)  independent of, greater than 
D)  independent of, smaller than

Question 18

Equity in a firm with debt is called

Accepted Answer

A)  levered equity. 
B)  riskless equity. 
C)  unlevered equity. 
D)  risky equity. 
A)  levered equity. 
B)  riskless equity. 
C)  unlevered equity. 
D)  risky equity.

Question 19

Use the information for the question(s) below.
Consider a project with free cash flows in one year of $90,000 in a weak economy or $117,000 in a strong economy, with each outcome being equally likely. The initial investment required for the project is $80,000, and the project's cost of capital is 15%. The risk-free interest rate is 5%.
-Suppose that to raise the funds for the initial investment the firm borrows $40,000 at the risk free rate and issues new equity to cover the remainder.In this situation,the cash flow that equity holders will receive in one year in a strong economy is closest to:

Accepted Answer

A)  $117,000 
B)  $75,000 
C)  $50,000 
D)  $0 
A)  $117,000 
B)  $75,000 
C)  $50,000 
D)  $0

Question 20

Use the information for the question(s) below.
Consider two firms: firm Without has no debt, and firm With has debt of $10,000 on which it pays interest of 5% per year. Both companies have identical projects that generate free cash flows of $1000 or $2000 each year. Suppose that there are no taxes, and after paying any interest on debt, both companies use all remaining cash free cash flows to pay dividends each year.
-What is a market value balance sheet and how does it differ from a book value balance sheet?

Accepted Answer

One application of MM Proposition I is t

Which of the following statements is correct?

Consider the following equation: β_U = β_E + β_D The term in the equation is

Which of the following statements is false?

With perfect capital markets,leverage has ________ effect on firm value or the firm's overall cost of capital.

Which of the following statements is false?

Which of the following statements is false?

With perfect capital markets,a firm's WACC is its capital structure and is its equity cost of capital if it is unlevered,which matches the cost of capital of its assets.

Equity in a firm with debt is called

The Corporation

Introduction to Financial Statement Analysis

Arbitrage and Financial Decision Making

The Time Value of Money

Interest Rates

Investment Decision Rules

Fundamentals of Capital Budgeting

Valuing Bonds

Valuing Stocks

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

Debt and Taxes

Financial Distress, managerial Incentives, and Information

Payout Policy

Capital Budgeting and Valuation With Leverage

Valuation and Financial Modeling: a Case Study

Financial Options

Option Valuation

Real Options

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

Exam 14: Capital Structure in a Perfect Market

Which of the following statements is correct?

Consider the following equation: βU = βE + βD The term in the equation is

Which of the following statements is false?

With perfect capital markets,leverage has ________ effect on firm value or the firm's overall cost of capital.

Which of the following statements is false?

Which of the following statements is false?

With perfect capital markets,a firm's WACC is ________ its capital structure and is ________ its equity cost of capital if it is unlevered,which matches the cost of capital of its assets.

Equity in a firm with debt is called

The Corporation

Introduction to Financial Statement Analysis

Arbitrage and Financial Decision Making

The Time Value of Money

Interest Rates

Investment Decision Rules

Fundamentals of Capital Budgeting

Valuing Bonds

Valuing Stocks

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

Debt and Taxes

Financial Distress, managerial Incentives, and Information

Payout Policy

Capital Budgeting and Valuation With Leverage

Valuation and Financial Modeling: a Case Study

Financial Options

Option Valuation

Real Options

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 equation: β_U = β_E + β_D The term in the equation is

With perfect capital markets,a firm's WACC is its capital structure and is its equity cost of capital if it is unlevered,which matches the cost of capital of its assets.