CAPITAL STRUCTURE AND LEVERAGE

The following statements are true regarding operating leverage EXCEPT

• A change in the volume of sales results in an "equal" change in operating profit (or loss).

• Operating leverage will magnify the effects of changes in sales on the firm’s earnings before interest and taxes

• A relative small change in sales will lead to large change in the firm’s EBIT

• Operating leverage concerns with the usage of fixed cost in a firm

"A relative small change in sales will lead to large change in the firm’s EBIT". The following statement is true for ____

• Total leverage

• Financial leverage

• Operating leverage

• Market 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.

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

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 factors 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

How does the tax shield on interest payments impact the cost of debt financing for a leveraged firm?

• Increases the cost of debt.

• Has no effect on the cost of debt.

• Reduces the cost of debt.

• Eliminates the need for debt financing.

In the context of Modigllani-Miller Proposition ll, how does the tax shield influence the cost of equity for a leveraged firm?

• Increases the cost of equity.

• Has no effect on the cost of equity.

• Reduces the cost of equity..

• Eliminates the need for equity financing.