Exam 16: Capital Structure

Investors Al and Bea lend $100,000 to each new idea.Al's history is that he selects low-risk projects or ideas that hit 80% of the time.Bea's history is that she takes on high-risk projects that hit 40% of the time.What rate of return must each successful project pay Al and Bea for them to break even?

Consider two companies in a world with no taxes that are alike except in borrowing choices.Barry Corp.has no debt financing,and Crawford Corp.uses debt financing.The EBIT for both companies is $100.Barry Corp.has 40 shares outstanding and pays no interest.Crawford Corp.has 30 shares outstanding and pays $25 in interest.What is the EPS for each company?

The optimal capital structure of a firm is that combination of debt and equity that provides the highest overall cost of capital,or the highest WACC.

The best combination of debt and equity creates what we call an imperfect capital structure.

Firms in need of financing tend to use external funds first and then revert to internal funds,or retained earnings,as a last resort.

Financial leverage is the degree to which a firm or individual utilizes ________.

Describe in detail the costs of bankruptcy.In your answer discuss both the direct and indirect costs.

Consider the Modigliani and Miller world of corporate taxes.An unleveraged (all-equity)firm value is $100 million.By adding debt,the annual interest expense is $10 million,the corporate tax rate is 40%,and the discount rate on the tax shield is 10%.What is the value of the firm after adding debt?

Wilderness Vacation Resorts,Inc.has a project that costs $400,000.It has a 30% chance of a $1,000,000 payoff and a 70% chance of a $200,000 payoff.What is the expected payoff and the expected profit or loss from the new project?

In their first venture into the optimal capital structure question,Nobel laureates Franco Modigliani and Merton Miller began with a very simple model and a hypothetical world of ________.

The work of Modigliani and Miller produced a near 100% debt/value mix for firms in a world of taxes.As it turns out,the theoretical and the actual debt/value ratio for most firms are almost identical at just about 100%.

M&M Proposition I states that,in a world of no taxes and no bankruptcy,________.

The Pecking Order Hypothesis suggests that profitable companies will borrow less (because they have more internal funds available)and may have higher debt-equity ratios because they have more debt capacity.

The original Modigliani and Miller proposition I states that the value of a firm depends on its capital structure.

Alice lends $200,000 for each new idea.Alice's history is that she selects low-risk projects or ideas that hit 50% of the time.What rate of return must each successful project pay Alice for her to break even?

Which of the statements below is TRUE?

The highest return to the investor is the lowest cost for the seller and vice versa.

You have a project that costs $800,000.It has a 1/3 chance of paying off $3,000,000 and a 2/3 chance of paying off $0.What is the expected payoff from the new project?

According to the Pecking Order Hypothesis,less profitable companies in an asymmetric world will need more ________;they will first seek ________ and will avoid ________.

George lends $200,000 for each new idea.George's history is that he selects low-risk projects or ideas that hit 80% of the time.What rate of return must each successful project pay George for him to break even?