CIC2011 WEEK 6 QUIZ

Which of the following is NOT a benefit of debt financing?

• Tax shields

• Limited liability

• Finanical flexibility

• Increased leverage

A firm's cost of equity is:

• The rate of return that investors require for investing in the firm's equity

• The rate of interest that the firm must pay on its debt.

• The average weighted cost of capital for the firm.

• The sum of the firm's cost of debt and cost of equity.

A firm's weighted average cost of capital (WACC) is:

• The average cost of the firm's debt and equity.

• The rate of return that the firm must generate in order to satisfy its investors and creditors.

• The minimum rate of return that the firm must generate on its new investments in order to increase shareholder value

• All of the above.

A firm with a higher debt-to-equity ratio will have a:

• HIgher WACC

• Lower WACC

• Same WACC

• Cannot be determined.

Calculate the WACC for a firm with the following capital structure:

¬ Debt: 50%

¬ Equity: 50%

¬ Cost of debt: 6%

¬ Cost of equity: 10%

• WACC 8%

• WACC 4%

• WACC 9%

• WACC 5%

The Modigliani-Miller theorem states that the value of a firm is independent of its capital structure. This theorem is based on the following assumptions_:

• Perfect capital markets

• No taxes

• No agency costs

• All of the above

What are some ways to mitigate the financial risk of a leveraged capital structure?

• Holding a cushion of cash reserves. maintaining a diversified portfalio of assets, and hedging against interest rate changes.

• Increasing the firm's dividend payout ratio, selling off assets, and repurchasing shares.

• Reducing the firm's debt-to-equity eratio, issuing new equity, and paying down debt.

• All of the above

What type of firm is more likely to have a high debt-to-equity ratio?

• A firm with a stable business model and low growth prospects.

• A firm with a volatile business model and high growth prospects.

• A firm with a high tax rate.

• All of the above.

Which is the capital structure decision?

• The decision of how to finance the firm's assets with debt and equity.

• The decision of how to invest the firm's cash reserves.

• The decision of how to allocate the firm's profits between dividends and retained earnings

• All of the above

Which of the following ifactors is NOT considered when determining a firm's optimal capital structure?

• The firm's tax rate

• The firm's business risk

• The firm's financial risk

• The firm's risk appetite