Question 1

What would be the degree of financial leverage for Foggy Futures Weather Forecasters if the company has earnings before interest and taxes of $750,000, has a 4.5% loan on $1,000,000 and is in the 38% tax bracket? The firm does not have any preferred stock outstanding.

Accepted Answer

A)  1.22 
B)  1.78 
C)  1.06 
D)  .97

Question 2

What would be the degree of financial leverage for Under A Cloud Skydiving School if the company will have earnings before interest and taxes of $750,000 which would be a 15% increase? The firm had EPS of $1.25 but, with the increased earnings, anticipates paying $1.37.

Accepted Answer

A)  .80 
B)  1.08 
C)  2.01 
D)  1.25

Question 3

Knight Moves is considering two alternative financing plans. The firm is expected to operate at the $75 million EBIT level. Under Plan D (debt financing) EPS is expected to be $2.25, and under Plan E (equity financing) EPS is expected to be $1.82. If the market is expected to assign a P/E ratio of 12 to the debt plan and 15 to the equity plan, which plan should Knight pursue?

Accepted Answer

A)  debt 
B)  equity 
C)  indifferent between the two alternatives 
D)  neither is satisfactory

Question 4

To balance the operating and financial risks that are so variable for a multinational company, Nestle allows its foreign operating subsidiaries ____ operational flexibility and follows a ____ financing strategy.

Accepted Answer

A)  decentralized, centralized 
B)  centralized, centralized 
C)  centralized, decentralized 
D)  decentralized, decentralized

Question 5

In the analysis of financial leverage, all of the following are referred to as fixed charges except:

Accepted Answer

A)  bond interest 
B)  common stock dividends 
C)  bank interest 
D)  preferred stock dividends

Question 6

River Rafts has determined that its expected EBIT for the coming year is $8.3 million. The EBIT is approximately normally distributed with a standard deviation of $5.1 million. If River Rafts has $1.9 million in annual interest payments, what is the probability that the firm will have negative earnings?

Accepted Answer

A)  4.65% 
B)  10.47% 
C)  5.16% 
D)  35.20%

Question 7

An analytical technique called ____ can be used to help determine when debt financing is advantageous and when equity financing is advantageous.

Accepted Answer

A)  DFL-EPS analysis 
B)  EBIT-EPS analysis 
C)  DCL-EPS analysis 
D)  DOL-EBIT analysis

Question 8

Archive Storage earned $3.20 a share on sales of $13.6 million. Archive has determined that its degree of operating leverage is 1.87 and its degree of financial leverage is 2.91. If sales are expected to increase 15%, what will be the EPS forecast?

Accepted Answer

A)  $2.61 
B)  $4.60 
C)  $5.81 
D)  $3.68

Question 9

The Lincoln Mint produces various types of one ounce silver commemorative medals for sale to collectors. The cost of producing and selling a given medal is as follows: 
What is the degree of operating leverage at an output level of 15,000 units?

Accepted Answer

A)  0.0 
B)  1.0 
C)  3.0 
D)  cannot be determined from the information provided

Question 10

Illinois Tool Company's (ITC) fixed operating costs are $1,260,000 and its variable cost ratio (i.e., variable costs as a fraction of sales) is 0.70. The firm has $3,000,000 in bonds outstanding at an interest rate of 8 percent. ITC has 30,000 shares of $5 preferred stock and 150,000 shares of common stock outstanding. ITC is in the 50 percent corporate income tax bracket. Forecasted sales for next year are $9 million. What is ITC's degree of combined leverage at a sales level of $10 million?

Accepted Answer

A)  2.00 
B)  1.72 
C)  2.50 
D)  1.25

Question 11

In evaluating a firm's degree of financial leverage, financial risk is ____________ with an increase in DFL.

Accepted Answer

A)  increased 
B)  decreased 
C)  not impacted 
D)  reflective of excess inventory

Question 12

A firm is said to be ____ if it is unable to meet its current obligations.

Accepted Answer

A)  cash insolvent 
B)  bankrupt 
C)  free cash challenged 
D)  technically insolvent

Question 13

Borkstran has sales of $7.8 million, a variable cost ratio of 0.6, EBIT of $1.1 million, and a degree of combined leverage of 3.4. What is Borkstran's degree of financial leverage?

Accepted Answer

A)  1.20 
B)  0.73 
C)  2.29 
D)  0.84

Question 14

Leigh Fibers expects its operating income over the coming year to equal $2.5 million with a standard deviation of $800,000. Leigh must pay interest charges of $1.2 million next year and preferred dividends of $300,000. Leigh's marginal tax rate is 35%. What is the probability that Leigh will have negative EPS next year if its operating income is expected to be normally distributed? (Problem requires normal distribution table)

Accepted Answer

A)  14.7% 
B)  5.2% 
C)  10.6% 
D)  15.7%

Question 15

List the five steps developed to assist financial managers in making capital structure decisions.

Accepted Answer

The answer of List the five steps developed to assist...

Question 16

In EBIT-EPS analysis, the indifference point is found at the point where ____ for the two alternative financing plans are equal.

Accepted Answer

A)  EBIT 
B)  EPS 
C)  stock prices 
D)  DOL

Question 17

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 combined leverage.

Accepted Answer

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

Question 18

Alace is an all equity firm with 10 million shares outstanding that is evaluating two alternative financing plans. With the first plan, Alace will sell 1 million shares of common stock at $15 each. Under the second plan, the firm would sell $15 million of 12 percent long-term debt. If Alace has a marginal tax rate of 35 percent, what is the EBIT-EPS indifference point?

Accepted Answer

A)  $12.9 million 
B)  $19.8 million 
C)  $11.7 million 
D)  $18.0 million

Question 19

Last year Avator's operating income (EBIT) increased by 22 percent while its dollar sales increased by 15%. What is Avator's degree of operating leverage (DOL)?

Accepted Answer

A)  0.68 
B)  2.0 
C)  1.47 
D)  0.32

Question 20

Sitco has a total of $12 million in cash and marketable securities. Free cash flows during the coming year are expected to be $47 million with a standard deviation of $31 million. Assume that Sitco's free cash flows are approximately normally distributed. What is the probability that Sitco will run out of cash during the coming year?

Accepted Answer

A)  29.98% 
B)  34.83% 
C)  97.13% 
D)  2.87%

Exam 14: Capital Structure Management in Practice