Question 1

If a company sells 20,000 units at $20 each, has fixed costs of $50,000 and a variable cost of $10 per unit, what is their degree of operating leverage (DOL)?

Accepted Answer

A)  1.6 
B)  2.5 
C)  1.33 
D)  1.7 
A)  1.6 
B)  2.5 
C)  1.33 
D)  1.7 C

Question 2

Assume the following selected financial information about a firm that is about to restructure capital by exchanging equity for debt: $\begin{array}{ll}
\text {Present debt level }&=\$ 0\
\text {Proposed equity for debt exchange }&=\$ 1,000,000\
\text { Present EBIT}&=\$ 500,000\
\text { Interest rate on debt}&=6 \% \
\text { Corporate tax rate}&=40 \%\
\text {Current market value of equity }&=\$ 3,000,000 \
\end{array}$
 What is the market value of the firm's equity after the restructuring according to the Modigliani-Miller model with taxes but without bankruptcy costs?

Accepted Answer

A)  $2,000,000 
B)  $2,264,000 
C)  $2,400,000 
D)  None of the above 
A)  $2,000,000 
B)  $2,264,000 
C)  $2,400,000 
D)  None of the above C

Question 3

Contribution is defined as the amount by which price exceeds variable cost per unit. Contribution stated as a percent of price is known as contribution margin.

Accepted Answer

A) True 
 B)False  True

Question 4

According to the MM model of capital structure, the present value of the tax shield is offset by potential ____, resulting in an optimal capital structure.

Accepted Answer

A)  bankruptcy costs 
B)  interest expense 
C)  operating costs 
D)  a and b 
A)  bankruptcy costs 
B)  interest expense 
C)  operating costs 
D)  a and b

Question 5

The formula for determining the degree of operating leverage is:
DOL = [Q (P - V)] $\div$  [Q (P - V) - FC]
The variables have the following meanings and values:
 $\begin{array}{lll}
\mathrm{P} & =\text { Price per unit } & =\$ 20.00 \
\mathrm{~V} & =\text { Variable cost per unit } & =\$ 16.00 \
\mathrm{Q} & \text { = Monthly quantity sold }& =5,000\\mathrm{FC}&=\text { Total anmual fixed costs }&=\$180,000
\end{array}$ A 5% increase in the firm's sales will lead to a 20% increase in its EBIT.

Accepted Answer

A) True 
 B)False

Question 6

Which of the following if the correct mathematical expression of the degree of financial leverage (DFL)?

Accepted Answer

A)  DFL = %ÄEBT $\div$  %ÄEPS 
B)  DFL = %ÄEBIT $\div$  %ÄEPS 
C)  DFL = %ÄEPS $\div$  %ÄEBIT 
D)  DFL = %ÄEPS $\div$  %ÄEBT 
A)  DFL = %ÄEBT $\div$  %ÄEPS 
B)  DFL = %ÄEBIT $\div$  %ÄEPS 
C)  DFL = %ÄEPS $\div$  %ÄEBIT 
D)  DFL = %ÄEPS $\div$  %ÄEBT

Question 7

Assume the following facts about a single product firm: $\begin{array}{l}
\text {Selling price per unit }&=\$ 25.00 \
\text { Variable costs per unit}&=\$ 21.25 \
\text {Total annual fixed costs }&=\$ 3,000
\end{array}$ What is the firm's annual breakeven volume in sales revenues?

Accepted Answer

A)  $540,000 
B)  $240,000 
C)  $20,000 
D)  $9,600 
A)  $540,000 
B)  $240,000 
C)  $20,000 
D)  $9,600

Question 8

In a favorable economic climate, at low to moderate levels of debt, investors value the positive effects of leverage and almost ignore increases in risk.

Accepted Answer

A) True 
 B)False

Question 9

Illinois Tool Company's (ITC) fixed operating costs are $1,260,000. Its variable costs average 70% of the price of its products. The firm currently has sales revenue of $9 million per year. What is ITC's degree of operating leverage?

Accepted Answer

A)  1.60 
B)  1.875 
C)  3.0 
D)  None of the above 
A)  1.60 
B)  1.875 
C)  3.0 
D)  None of the above

Question 10

Kermit's Hardware's (KH) fixed operating costs are $20.8 million and its variable cost ratio is 0.30. The firm has $10 million in bonds outstanding with a coupon interest rate of 9%. KH has 200,000 shares of common stock outstanding. The firm has revenues of $32.2 million and its marginal tax rate is 40%. Compute KH's degree of total leverage.

Accepted Answer

A)  26.8 
B)  5.5 
C)  29.1 
D)  4.7 
A)  26.8 
B)  5.5 
C)  29.1 
D)  4.7

Question 11

The slope of a EBIT-EPS line declines as its financial leverage increases.

Accepted Answer

A) True 
 B)False

Question 12

The underlying reason that financial leverage contributes to shareholder wealth is that under certain conditions it improves financial performance as measured by EBIT, ROE, and EPS.

Accepted Answer

A) True 
 B)False

Question 13

The breakeven point on a breakeven diagram is:

Accepted Answer

A)  the point where the fixed cost line and the revenue line intersect. 
B)  the point where the total cost line and the revenue line intersect. 
C)  the point where the total cost line intersects the horizontal axis. 
D)  the point where the total cost line intersects the vertical axis. 
A)  the point where the fixed cost line and the revenue line intersect. 
B)  the point where the total cost line and the revenue line intersect. 
C)  the point where the total cost line intersects the horizontal axis. 
D)  the point where the total cost line intersects the vertical axis.

Question 14

An increase in a firm's operating leverage will also increase its financial leverage.

Accepted Answer

A) True 
 B)False

Question 15

The use of fixed cost sources of funds, such as debt and preferred stock, affect a firm's:

Accepted Answer

A)  financial risk. 
B)  degree of operating leverage. 
C)  market power. 
D)  business risk. 
A)  financial risk. 
B)  degree of operating leverage. 
C)  market power. 
D)  business risk.

Question 16

Financial leverage amplifies relative changes in EBIT into larger relative changes in ROE and EPS, operating leverage amplifies:

Accepted Answer

A)  relative changes in EBIT into larger relative changes in sales revenue. 
B)  relative changes in sales revenue into larger relative changes in EBIT. 
C)  relative changes in sales revenue into larger relative changes in ROE and EPS. 
D)  relative changes in ROE and EPS into larger relative changes in EBIT. 
A)  relative changes in EBIT into larger relative changes in sales revenue. 
B)  relative changes in sales revenue into larger relative changes in EBIT. 
C)  relative changes in sales revenue into larger relative changes in ROE and EPS. 
D)  relative changes in ROE and EPS into larger relative changes in EBIT.

Question 17

Which of the following is correct?

Accepted Answer

A)  Capital structure affects both financial leverage and operating leverage. 
B)  Cost structure affects both financial leverage and operating leverage. 
C)  Capital structure affects financial leverage and cost structure affects operating leverage. 
D)  Capital structure affects operating leverage and cost structure affects financial leverage. 
E)  None of the above is correct. 
A)  Capital structure affects both financial leverage and operating leverage. 
B)  Cost structure affects both financial leverage and operating leverage. 
C)  Capital structure affects financial leverage and cost structure affects operating leverage. 
D)  Capital structure affects operating leverage and cost structure affects financial leverage. 
E)  None of the above is correct.

Question 18

Financial leverage increases a firm's ROE and EPS under which of the following circumstances?

Accepted Answer

A) ROCE = cost of debt B) ROCE > after tax cost of debt C) ROCE < pretax cost of debt D) ROCE = cost of equity A) ROCE = cost of debt B) ROCE > after tax cost of debt C) ROCE < pretax cost of debt D) ROCE = cost of equity

Question 19

Financial risk is not directly associated with ____.

Accepted Answer

A)  ROE 
B)  EBIT 
C)  EPS 
D)  net income 
A)  ROE 
B)  EBIT 
C)  EPS 
D)  net income

Question 20

Antarctic Corporation currently has the following financial information: Variable Cost = $100,000
Sales = $500,000
Fixed Cost = $200,000
Calculate the DOL for Antarctic Corporation.

Accepted Answer

A)  2.0 
B)  3.0 
C)  4.0 
D)  5.0 
A)  2.0 
B)  3.0 
C)  4.0 
D)  5.0

If a company sells 20,000 units at $20 each, has fixed costs of $50,000 and a variable cost of $10 per unit, what is their degree of operating leverage (DOL)?

Contribution is defined as the amount by which price exceeds variable cost per unit. Contribution stated as a percent of price is known as contribution margin.

According to the MM model of capital structure, the present value of the tax shield is offset by potential ____, resulting in an optimal capital structure.

Which of the following if the correct mathematical expression of the degree of financial leverage (DFL)?

Assume the following facts about a single product firm: Selling price per unit =\ 25.00 Variable costs per unit =\ 21.25 Total annual fixed costs =\ 3,000 What is the firm's annual breakeven volume in sales revenues?

In a favorable economic climate, at low to moderate levels of debt, investors value the positive effects of leverage and almost ignore increases in risk.

Illinois Tool Company's (ITC) fixed operating costs are $1,260,000. Its variable costs average 70% of the price of its products. The firm currently has sales revenue of $9 million per year. What is ITC's degree of operating leverage?

The slope of a EBIT-EPS line declines as its financial leverage increases.

The underlying reason that financial leverage contributes to shareholder wealth is that under certain conditions it improves financial performance as measured by EBIT, ROE, and EPS.

The breakeven point on a breakeven diagram is:

An increase in a firm's operating leverage will also increase its financial leverage.

The use of fixed cost sources of funds, such as debt and preferred stock, affect a firm's:

Financial leverage amplifies relative changes in EBIT into larger relative changes in ROE and EPS, operating leverage amplifies:

Which of the following is correct?

Financial leverage increases a firm's ROE and EPS under which of the following circumstances?

Financial risk is not directly associated with ____.

Antarctic Corporation currently has the following financial information: Variable Cost = $100,000 Sales = $500,000 Fixed Cost = $200,000 Calculate the DOL for Antarctic Corporation.

Foundations

Financial Background: a Review of Accounting, Financial Statements, and Taxes

Cash Flows and Financial Analysis

Financial Planning

The Financial System, Corporate Governance, and Interest

Time Value of Money

The Valuation and Characteristics of Bonds

The Valuation and Characteristics of Stock

Risk and Return

Capital Budgeting

Cash Flow Estimation

Risk Topics and Real Options in Capital Budgeting

Cost of Capital

Dividends

The Management of Working Capital Multiple Choice Questions

The Management of Working Capital

Corporate Restructuring

International Finance

Filters

Exam 14: Capital Structure and Leverage

If a company sells 20,000 units at $20 each, has fixed costs of $50,000 and a variable cost of $10 per unit, what is their degree of operating leverage (DOL)?

Contribution is defined as the amount by which price exceeds variable cost per unit. Contribution stated as a percent of price is known as contribution margin.

According to the MM model of capital structure, the present value of the tax shield is offset by potential ____, resulting in an optimal capital structure.

Which of the following if the correct mathematical expression of the degree of financial leverage (DFL)?

Assume the following facts about a single product firm: Selling price per unit =\ 25.00 Variable costs per unit =\ 21.25 Total annual fixed costs =\ 3,000 What is the firm's annual breakeven volume in sales revenues?

In a favorable economic climate, at low to moderate levels of debt, investors value the positive effects of leverage and almost ignore increases in risk.

Illinois Tool Company's (ITC) fixed operating costs are $1,260,000. Its variable costs average 70% of the price of its products. The firm currently has sales revenue of $9 million per year. What is ITC's degree of operating leverage?

The slope of a EBIT-EPS line declines as its financial leverage increases.

The underlying reason that financial leverage contributes to shareholder wealth is that under certain conditions it improves financial performance as measured by EBIT, ROE, and EPS.

The breakeven point on a breakeven diagram is:

An increase in a firm's operating leverage will also increase its financial leverage.

The use of fixed cost sources of funds, such as debt and preferred stock, affect a firm's:

Financial leverage amplifies relative changes in EBIT into larger relative changes in ROE and EPS, operating leverage amplifies:

Which of the following is correct?

Financial leverage increases a firm's ROE and EPS under which of the following circumstances?

Financial risk is not directly associated with ____.

Antarctic Corporation currently has the following financial information: Variable Cost = $100,000 Sales = $500,000 Fixed Cost = $200,000 Calculate the DOL for Antarctic Corporation.

Foundations

Financial Background: a Review of Accounting, Financial Statements, and Taxes

Cash Flows and Financial Analysis

Financial Planning

The Financial System, Corporate Governance, and Interest

Time Value of Money

The Valuation and Characteristics of Bonds

The Valuation and Characteristics of Stock

Risk and Return

Capital Budgeting

Cash Flow Estimation

Risk Topics and Real Options in Capital Budgeting

Cost of Capital

Dividends

The Management of Working Capital Multiple Choice Questions

The Management of Working Capital

Corporate Restructuring

International Finance

Filters