Corporate Finance 2_Quiz 3

The firm's capital structure refers to the:

• amount of dividends a firm pays.

• mix of debt and equity used to finance the firm's assets.

• amount of cash versus receivables the firm holds.

• amount of capital invested in the firm.

MM Proposition I with taxes is based on the concept that the:

• presence of taxes causes debt to be valuable to a firm.

• capital structure of the firm does not matter because investors can use homemade leverage.

• firm is better off with debt based on the weighted average cost of capital.

• optimal capital structure is the one that is totally financed with equity.

A firm should always select the capital structure which:

• maximizes current dividends.

• produces the highest cost of capital.

• minimizes taxes.

• maximizes the value of the firm.

MM Proposition I with no tax supports the argument that:

• it is completely irrelevant how a firm arranges its finances.

• the cost of equity rises as leverage rises.

• business risk determines the return on assets.

• financial risk is determined by the debt-equity ratio.

The tax shield on debt is one reason why:

• firms prefer equity financing over debt financing.

• the value of an unlevered firm is equal to the value of a levered firm.

• the cost of debt is equal to the cost of equity for a levered firm.

• the net cost of debt to a firm is generally less than the cost of equity.

CT Stores has debt with a book value of $325,000 and a market value of $319,000. The firm's equity has a book value of $526,000 and a market value of $684,000. The tax rate is 21 percent and the cost of capital is 11.2 percent. What is the market value of this firm based on MM Proposition I without taxes?

• $923,250

• $984,300

• $851,000

• $1,003,000

A firm has zero debt in its capital structure and has an overall cost of capital of 10 percent. The firm is considering a new capital structure with 60 percent debt at an interest rate of 8 percent. Assuming there are no taxes or other imperfections, what would be the cost of equity with the new capital structure?

• 9 percent

• 13 percent

• 11 percent

• 10 percent

The Spartan Co. has an unlevered cost of capital of 11.6 percent, a cost of debt of 7.9 percent, and a tax rate of 23 percent. What is the target debt-equity ratio if the targeted levered cost of equity is 12.6 percent?

• .39

• .53

• .44

• .35

A firm has debt of $7,000, equity of $12,000, a cost of debt of 7 percent, a cost of equity of 14 percent, and a tax rate of 21 percent. What is the firm's weighted average cost of capital?

• 8.45 percent

• 12.50 percent

• 10.88 percent

• 9.90 percent

A firm has a debt-equity ratio of .64, a pre-tax cost of debt of 8.5 percent, and a required return on assets of 12.6 percent. What is the cost of equity if you ignore taxes?

• 11.12 percent

• 8.06 percent

• 8.55 percent

• 15.22 percent