Answer Options:
a. True
b. False
Answer:
b. False
Question: Primary markets are large and important, while secondary markets are smaller and less important.
Answer Options:
a. True
b. False
Answer:
b. False
Question: Which of the following statements is CORRECT? a. The use of debt financing will tend to lower the basic earning power ratio, other things held constant. b. A firm that employs financial leverage will have a higher equity multiplier than an otherwise identical firm that has no debt in its capital structure. c. If two firms have identical sales, interest rates paid, operating costs, and assets, but differ in the way they are financed, the firm with less debt will generally have the higher expected ROE. d. The numerator used in the TIE ratio is earnings before taxes (EBT). EBT is used because interest is paid with post-tax dollars, so the firm’s ability to pay current interest is affected by taxes. e. All else equal, increasing the total debt to total capital ratio will increase the ROA.
Answer:
b. A firm that employs financial leverage will have a higher equity multiplier than an otherwise identical firm that has no debt in its capital structure.
Question: Which of the following statements is CORRECT? a. A firm can use retained earnings without paying a flotation cost. Therefore, while the cost of retained earnings is not zero, its cost is generally lower than the after-tax cost of debt. b. The capital structure that minimizes a firm’s weighted average cost of capital is also the capital structure that maximizes its stock price. c. The capital structure that minimizes the firm’s weighted average cost of capital is also the capital structure that maximizes its earnings per share. d. If a firm finds that the cost of debt is less than the cost of equity, increasing its debt ratio must reduce its WACC. e. Other things held constant, if corporate tax rates declined, then the Modigliani-Miller tax-adjusted theory would suggest that firms should increase their use of debt.
Answer:
b
Question: The trade-off theory states that capital structure decisions involve a tradeoff between the costs and benefits of debt financing.
Answer Options:
a. True
b. False
Answer:
True
Question: If a firm uses the residual dividend model to set dividend policy, then dividends are determined as a residual after providing for the equity required to fund the capital budget. Under this model, the better the firm’s investment opportunities, the lower its payout ratio will be, other things held constant.
Answer Options:
a. True
b. False
Answer:
a. True
Question: Which of the following statements is CORRECT?
Answer Options:
a. One disadvantage of dividend reinvestment plans is that they increase transactions costs for investors who want to increase their investment in the company.
b. One advantage of dividend reinvestment plans is that they enable investors to postpone paying taxes on the dividends credited to their account.
c. Stock repurchases can be used by a firm that wants to increase its debt ratio.
d. Stock repurchases make sense if a company expects to have a lot of profitable new projects to fund over the next few years, provided investors are aware of these investment opportunities.
e. One advantage of an open market dividend reinvestment plan is that it provides both equity capital and increases the shares outstanding.
Answer:
c. Stock repurchases can be used by a firm that wants to increase its debt ratio.
Question: Suppose a firm that has been earning $2 and paying a dividend of $1.00, or a 50% dividend payout, announces that it is increasing the dividend to $1.50. The stock price then jumps from $20 to $30. Some people would argue that this is proof that investors prefer dividends to retained earnings. Miller and Modigliani would agree with this argument.
Answer Options:
a. True
b. False
Answer:
b. False
Question: Different borrowers have different risks of bankruptcy, and if a borrower goes bankrupt, its lenders will probably not get back the full amount of funds that they loaned. Therefore, lenders charge higher rates to borrowers judged to be more likely to go bankrupt.
Answer Options:
a. True
b. False
Answer:
True
Question: If on January 3, 2015, a company declares a dividend of $1.50 per share, payable on January 31, 2015, to holders of record on January 17, then the price of the stock should drop by approximately $1.50 on January 15, which is the ex-dividend date.
Answer Options:
a. True
b. False
Answer:
a. True
Question: The Modigliani and Miller (MM) articles implicitly assumed, among other things, that outside stockholders have the same information about a firm’s future prospects as its managers. That was called “symmetric information,” and it is questionable. The introduction of “asymmetric information” led to the development of the “signaling” theory of capital structure, which postulated that firms are reluctant to issue new stock because investors will interpret such an act as a signal that the firm’s managers are worried about its future. Other actions give off different signals, and the end result is that capital structure is affected by managers’ perceptions about how their financing decisions will affect investors’ views of the firm and thus its value.
Answer Options:
a. True
b. False
Answer:
a. True
Question: The rate used to discount projected merger cash flows should be the overall cost of capital of the new consolidated firm because it incorporates the actual capital structure of the new firm.
Answer Options:
a. True
b. False
Answer:
a. True
Question: Which of the following statements is CORRECT? a. Other things held constant, the more debt a firm uses, the higher its operating margin will be. b. Debt management ratios show the extent to which a firm’s managers are attempting to magnify returns on owners’ capital through the use of financial leverage. c. Other things held constant, the more debt a firm uses, the higher its profit margin will be. d. Other things held constant, the higher a firm’s total debt to total capital ratio, the higher its TIE ratio will be. e. Debt management ratios show the extent to which a firm’s managers are attempting to reduce risk through the use of financial leverage. The higher the total debt to total capital ratio, the lower the risk.
Answer:
b. Debt management ratios show the extent to which a firm’s managers are attempting to magnify returns on owners’ capital through the use of financial leverage.
Question: A swap is a method used to reduce financial risk. Which of the following statements about swaps, if any, is NOT CORRECT? a. A swap involves the exchange of cash payment obligations. b. The earliest swaps were currency swaps, in which companies traded debt denominated in different currencies, say dollars and pounds. c. Swaps are very often arranged by a financial intermediary, who may or may not take the position of one of the counterparties. d. A problem with swaps is that no standardized contracts exist, which has prevented the development of a secondary market. e. Swaps can involve side payments in order to get the counterparty to agree to the swap.
Answer:
d. A problem with swaps is that no standardized contracts exist, which has prevented the development of a secondary market.
Question: Which of the following statements is CORRECT? As a firm increases the operating leverage used to produce a given quantity of output, this a. normally leads to an increase in its fixed assets turnover ratio. b. normally leads to an increase in its business risk. c. normally leads to a decrease in the standard deviation of its expected EBIT. d. normally leads to a decrease in the variability of its expected EPS. e. normally leads to a reduction in its fixed assets turnover ratio.
Answer:
e
Question: If the tax laws were changed so that $0.50 out of every $1.00 of interest paid by a corporation was allowed as a tax-deductible expense, this would probably encourage companies to use more debt financing than they presently do, other things held constant.
Answer Options:
a. True
b. False
Answer:
a. True