WorksheetsCost of Capital Quiz
Total questions: 20
Worksheet time: 10mins
Cost of capital refers to:
The total expenses of the firm
The minimum return expected by investors on the firm's investment
Dividend paid to shareholders
Interest paid to banks
The main purpose of calculating cost of capital is to:
Evaluate the minimum return required on investment projects
Determine employee salaries
Calculate tax liabilities
Plan marketing expenses
Cost of equity is defined as:
The interest paid on loans
Return required by shareholders for investing in the company
Dividends paid to preference shareholders
Cost of retained earnings only
Which of the following methods is used to estimate the cost of equity?
Dividend Discount Model (DDM)
Capital Asset Pricing Model (CAPM)
Both A and B
Payback period method
Cost of debt is usually calculated after tax because:
Debt is risk-free
Interest paid is tax-deductible
Debt has no repayment obligation
Equity is more expensive
Term loans are:
Short-term borrowing for day-to-day operations
Long-term borrowing from banks or financial institutions
Retained earnings
Equity capital from promoters
Preference shares are considered a source of finance because they:
Provide voting rights to shareholders
Provide fixed dividends without ownership rights
Represent debt obligations
Are short-term financing instruments
Retained earnings are considered:
A form of external financing
A cost-free source of finance
An internal source of finance that belongs to shareholders
Short-term debt
Convertible debentures:
Are a type of equity
Can be converted into equity shares at a future date
Do not pay interest
Are short-term borrowings
WACC is defined as:
The weighted average of all sources of capital used by the firm
The interest rate on term loans
The cost of equity only
The total operating expenses
The WACC is important in financial management because it:
Determines the minimum return required for investment decisions
Sets dividend policy
Measures liquidity
Evaluates employee performance
Flotation costs are:
Interest paid on loans
Costs incurred when issuing new shares or debt instruments
Cost of retained earnings
Operating expenses
Cost of retained earnings is:
Always zero
Considered equivalent to the cost of equity for the firm
Less than the cost of debt
Higher than the cost of equity always
CAPM formula helps to estimate:
Cost of debt
Cost of equity
WACC
Dividend policy
Using debt in the capital structure can reduce WACC because:
Debt is risk-free
Interest on debt is tax-deductible, creating a tax shield
Debt increases the risk of equity
Equity cost decreases automatically
The risk-return tradeoff in cost of capital implies that:
Higher risk always guarantees higher returns
Higher expected return requires taking higher risk
Risk can be ignored in capital budgeting
WACC is independent of risk
Internal sources of finance include:
Equity shares and debentures
Retained earnings and sale of assets
Bank loans and term loans
Public deposits
External sources of finance include:
Retained earnings
Sale of fixed assets
Bank loans, debentures, and public deposits
Accumulated profits
An increase in the proportion of debt in the capital structure may:
Decrease the overall cost of capital initially due to tax benefits
Have no impact on WACC
Always increase WACC
Make equity cost irrelevant
The main difference between cost of debt and cost of equity is:
Debt carries interest obligation while equity requires expected return for shareholders
Debt is always riskier than equity
Equity is tax-deductible
Debt is used for short-term financing only
