Exam 13: Leverage and Capital Structure

Beginning with a zero-leverage company, as debt is substituted for equity in the capital structure ________.

A firm's ________ is the level of sales necessary to cover all operating costs, i.e., the point at which EBIT equals zero.

Which of the following is a difference between debt and equity capital?

Financial leverage results from the presence of variable financial costs in a firm's income stream.

Earnings before interest and taxes are positive above the operating breakeven point, and a loss occurs below it.

The cost of debt financing results from ________.

________ is the potential use of fixed financial charges to magnify the effects of changes in earnings before interest and taxes on a firm's earnings per share.

The preferred approach to breakeven analysis for a multiproduct firm is the ________.

Mark must buy four new tires for his car. He is considering buying tires that are $25 a piece more than his regular brand, because the higher priced tires are supposed to increase his miles per gallon by 20%. If the tires are good for 48,000 miles and Mark drives an average of 1,000 miles per month, gas costs $2.50 per gallon over the next 4 years, and Mark's car gets 30 miles to the gallon now (on the old tires), should Mark purchase the more expensive tires?

________ is the potential use of fixed operating costs to magnify the effects of changes in sales on earnings before interest and taxes.

In the EBIT-EPS approach to capital structure, risk is represented by ________.

If we assume that EBIT is constant, the value of a firm is maximized by minimizing the weighted average cost of capital.

One of the limitations of breakeven analysis is its short-term time horizon. A large outlay in the current financial period could significantly raise the firm's breakeven point, while the benefits may occur over a period of years.

A firm has EBIT of $375,000, interest expense of $75,000, preferred dividends of $6,000 and a tax rate of 40 percent. The firm's degree of financial leverage at a base EBIT level of $375,000 is ________.

A firm's capital structure is the mix of the current liabilities, long-term debt, and equity maintained by the firm.

Pecking order is a hierarchy of financing beginning with retained earnings, followed by debt financing, and finally external equity financing.

In finding the operating breakeven point, it is important to divide the cost of goods sold and operating expenses into fixed and variable operating costs.

Due to the difficulty of allocating costs to products in a multiproduct firm, the breakeven model may fail to determine breakeven points for each product line.

Breakeven analysis is used by a firm ________.

Through the effects of financial leverage, when EBIT increases, ________.