Answer Options:
a. True
b. False
Answer: True
Question: If two firms have the same expected earnings per share (EPS) and the same standard deviation of expected EPS, then they must have the same amount of business risk. a. True b. False
Answer: b. False
Question: A “reverse split” reduces the number of shares outstanding.
Answer Options:
a. True
b. False
Answer: True
Question: Which of the following would tend to increase a firm’s target debt ratio, other things held constant? a. The costs associated with filing for bankruptcy increase. b. The corporate tax rate is increased. c. The personal tax rate is increased. d. The Federal Reserve tightens interest rates in an effort to fight inflation. e. The company’s stock price hits a new low.
Answer: b. The corporate tax rate is increased.
Question: You own 100 shares of Troll Brothers’ stock, which currently sells for $120 a share. The company is about to declare a 2-for-1 stock split. Which of the following best describes your likely position after the split? a. You will have 200 shares of stock, and the stock will trade at or near $120 a share. b. You will have 200 shares of stock, and the stock will trade at or near $60 a share. c. You will have 100 shares of stock, and the stock will trade at or near $60 a share. d. You will have 50 shares of stock, and the stock will trade at or near $120 a share. e. You will have 50 shares of stock, and the stock will trade at or near $600 a share.
Answer: b
Question: If a firm adheres strictly to the residual dividend policy, and if its optimal capital budget requires the use of all earnings for a given year (along with new debt according to the optimal debt/assets ratio), then the firm should pay a. the same dividend as it paid the prior year. b. no dividends to common stockholders. c. dividends only out of funds raised by the sale of new common stock. d. dividends only out of funds raised by borrowing money (i.e., issuing debt). e. dividends only out of funds raised by selling off fixed assets.
Answer: b
Question: Which of the following statements is CORRECT?
Answer Options:
a. The capital structure that maximizes the stock price is also the capital structure that minimizes the cost of equity from retained earnings (rs).
b. The capital structure that maximizes the stock price is also the capital structure that maximizes earnings per share.
c. The capital structure that maximizes the stock price is also the capital structure that maximizes the firm’s times interest earned (TIE) ratio.
d. If a company increases its debt ratio, this will typically increase the marginal costs of both debt and equity, but it still may reduce the company’s WACC.
e. If Congress were to pass legislation that increases the personal tax rate but decreases the corporate tax rate, this would encourage companies to increase their debt ratios.
Answer: d
Question: It has been argued that investors prefer high-payout companies because dividends are more certain (less risky) than the capital gains that are supposed to come from retained earnings. However, Miller and Modigliani say that this argument is incorrect, and they call it the “bird-in-the-hand fallacy.” MM base their argument on the belief that most dividends are reinvested in stocks, hence are exposed to the same risks as reinvested earnings.
Answer Options:
a. True
b. False
Answer: True
Question: Other things held constant, firms with more stable and predictable sales tend to use more debt than firms with less stable sales. a. True b. False
Answer: a. True
Question: If a firm borrows money, it is using financial leverage. a. True b. False
Answer: a. True
Question: Which of the following statements is CORRECT? a. Historically, the tax code has encouraged companies to pay dividends rather than retain earnings. b. If a company uses the residual dividend model to determine its dividend payments, dividend payout will tend to increase whenever its profitable investment opportunities increase relatively rapidly. c. The more a firm’s management believes in the clientele effect, the more likely the firm is to adhere strictly to the residual dividend model. d. Large stock repurchases financed by debt tend to increase expected earnings per share. e. A dollar paid out to repurchase stock has the same tax benefit as a dollar paid out in dividends. Thus, both companies and investors should be indifferent between distributing cash through dividends and stock repurchase programs.
Answer: d
Question: Is it possible for Firms A and B to have identical financial and operating leverage, yet for Firm A to have more risk as measured by the variability of EPS. This would occur if Firm A has more business risk than Firm B. a. True b. False
Answer: a. True