Question 1

The firm's business risk is largely determined by the financial characteristics of its industry.

Accepted Answer

A) True 
 B)False

Question 2

The trade-off theory tells us that the capital structure decision involves a tradeoff between the costs of debt financing and the benefits of debt financing.

Accepted Answer

A) True 
 B)False

Question 3

The graphical probability distribution of net income, when financial leverage is used, would tend to be more peaked than a distribution where no leverage is present, other things held constant.

Accepted Answer

A) True 
 B)False

Question 4

Firm A has a higher degree of business risk than Firm B. Firm A can offset this by using less financial leverage. Therefore, the variability of both firms' expected EBITs could actually be identical.

Accepted Answer

A) True 
 B)False

Question 5

Financial leverage affects both EPS and EBIT, while operating leverage only affects EBIT.

Accepted Answer

A) True 
 B)False

Question 6

Which of the following statements is most correct?

Accepted Answer

A)   A firm can use retained earnings without paying a flotation cost. Therefore, while the cost of retained earnings is not zero, the cost of retained earnings is generally lower than the after-tax cost of debt financing.
B)   The capital structure that minimizes the firm's cost of capital is also the capital structure that maximizes the firm's stock price.
C)   The capital structure that minimizes the firm's cost of capital is also the capital structure that maximizes the firm's earnings per share.
D)   If a firm finds that the cost of debt financing is currently less than the cost of equity financing, an increase in its debt ratio will always reduce its cost of capital.
E)   Statements a and b are correct.

Question 7

Two firms could have identical financial and operating leverage, yet have different degrees of risk as measured by the variability of EPS.

Accepted Answer

A) True 
 B)False

Question 8

Company A and Company B have the same total assets, operating income (EBIT) , tax rate, and business risk. Company A, however, has a much higher debt ratio than Company B. Company A's basic earning power (BEP)  exceeds its cost of debt financing (rd) . Which of the following statements is most correct?

Accepted Answer

A)   Company A has a higher return on assets (RO
A)   than Company B.
B)   Company A has a higher times interest earned (TI
E)   ratio than Company B.
C)   Company A has a higher return on equity (RO
E)   than Company B, and its risk, as measured by the standard deviation of ROE, is also higher than Company B's.
D)   Statements b and c are correct.
E)   All of the statements above are correct.

Question 9

What is AJC's current total market value and weighted average cost of capital?

Accepted Answer

A)   $600,000; 7.5%
B)   $600,000; 8.0%
C)   $800,000; 7.0%
D)   $800,000; 7.5%
E)   $800,000; 8.0%

Exam 15: Capital Structure Decisions: Part I

The firm's business risk is largely determined by the financial characteristics of its industry.

Correct Answer
verified

Financial leverage affects both EPS and EBIT, while operating leverage only affects EBIT.

Correct Answer
verified

Firm A has a higher degree of business risk than Firm B. Firm A can offset this by using less financial leverage. Therefore, the variability of both firms' expected EBITs could actually be identical.

Correct Answer
verified

The trade-off theory tells us that the capital structure decision involves a tradeoff between the costs of debt financing and the benefits of debt financing.

Correct Answer
verified

Which of the following statements is most correct?

Correct Answer
verified

Correct Answer
verified

Two firms could have identical financial and operating leverage, yet have different degrees of risk as measured by the variability of EPS.

Correct Answer
verified

The graphical probability distribution of net income, when financial leverage is used, would tend to be more peaked than a distribution where no leverage is present, other things held constant.

Correct Answer
verified

What is AJC's current total market value and weighted average cost of capital?

Correct Answer
verified

Exam 15: Capital Structure Decisions: Part I

The firm's business risk is largely determined by the financial characteristics of its industry.

Correct AnswerverifiedShow Answer

Financial leverage affects both EPS and EBIT, while operating leverage only affects EBIT.

Correct AnswerverifiedShow Answer

Firm A has a higher degree of business risk than Firm B. Firm A can offset this by using less financial leverage. Therefore, the variability of both firms' expected EBITs could actually be identical.

Correct AnswerverifiedShow Answer

The trade-off theory tells us that the capital structure decision involves a tradeoff between the costs of debt financing and the benefits of debt financing.

Correct AnswerverifiedShow Answer

Which of the following statements is most correct?

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Two firms could have identical financial and operating leverage, yet have different degrees of risk as measured by the variability of EPS.

Correct AnswerverifiedShow Answer

The graphical probability distribution of net income, when financial leverage is used, would tend to be more peaked than a distribution where no leverage is present, other things held constant.

Correct AnswerverifiedShow Answer

What is AJC's current total market value and weighted average cost of capital?

Correct AnswerverifiedShow Answer

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified