Exam 12: Leverage and Capital Structure

Due to its secondary position relative to equity,suppliers of debt capital face greater risk and therefore must be compensated with higher expected returns than suppliers of equity capital.

Earnings before interest and taxes (EBIT)is a descriptive label for ________.

When considering fixed operating cost increases,a financial manager must weigh the increased financial risk associated with greater operating leverage against the expected increase in returns.

Financial leverage measures the effect of fixed financial costs on the relationship between ________.

At the operating breakeven point,the sales revenue is equal to the sum of the fixed and variable operating costs.

A corporation has $5,000,000 of 8 percent preferred stock outstanding and a 40 percent tax rate.The after-tax cost of the preferred stock is ________.

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

In the traditional approach to capital structure,as the amount of debt increases in a firm's capital structure,________.

________ 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.

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 has fixed operating costs of $525,000.The sales price per unit is $35 and its variable costs per unit is $22.50.The firm's operating breakeven point in units is ________.

If a firm's fixed financial costs decrease,the firm's operating breakeven point will ________.

Firms having stable and predictable revenues can more safely employ highly leveraged capital structures than can firms with volatile patterns of sales revenue.

Fixed financial charges include ________.

________ costs require the payment of a specified amount in each accounting period.

As debt is substituted for equity in the capital structure and the debt ratio increases,the behavior of the overall cost of capital is partially explained by ________.

Holding all other factors constant,a firm that is subject to a greater level of business risk should employ more financial leverage than an otherwise equivalent firm that is subject to a lesser level of business risk.

________ results from the use of fixed-cost assets or funds to magnify returns to a firm's owners.

In general,a firm's theoretical optimal capital structure is that which balances the tax benefits of equity financing against the increase probability of bankruptcy that results from its use.

Generally,the greater a firm's times interest earned ratio,the less able it is to meet payments as they come due.