a. There are tax benefits to debt, so capital structure can affect the value of the firm b. Firms don't care about their amount of debt c. There are tax benefits of equity, so using debt can replace valuable equity d. None of the above 8. When an economy has a risk-free asset, all risk-averse investors should invest in either the risk-free asset or the highest Sharpe-ratio risky asset (or both) a. True b. False c. Too little information to tell d. None of the above 9. The CAPM equation (Security Market Line) is a useful tool when trying to identify a company's a. Weight Average Cost of Capital b. Required Return on Equity c. Expected Return on Equity d. All of the above Jed I

a. There are tax benefits to debt, so capital structure can affect the value of the firm b. Firms don't care about their amount of debt c. There are tax benefits of equity, so using debt can replace valuable equity d. None of the above 8. When an economy has a risk-free asset, all risk-averse investors should invest in either the risk-free asset or the highest Sharpe-ratio risky asset (or both) a. True b. False c. Too little information to tell d. None of the above 9. The CAPM equation (Security Market Line) is a useful tool when trying to identify a company's a. Weight Average Cost of Capital b. Required Return on Equity c. Expected Return on Equity d. All of the above Jed I

Financial Reporting, Financial Statement Analysis and Valuation

8th Edition

ISBN:9781285190907

Author:James M. Wahlen, Stephen P. Baginski, Mark Bradshaw

Publisher:James M. Wahlen, Stephen P. Baginski, Mark Bradshaw

Chapter11: Risk-adjusted Expected Rates Of Return And The Dividends Valuation Approach

Section: Chapter Questions

Problem 6QE

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2. If the value of the financial sector is in terms of reducing the individual risk in the economy, how could you measure the value of the financial sector without using information on loan payments (broadly construed to include any interest payment necessary to measure an interest rate or any payment that looks like a return on an investmemt)? If we think of the amount of individual risk remaining after individuals buy portfolios is a measure of the ineffectiveness of the financial sector [or its imperfections], what do you think accounts for these imperfections?
Debt allows an economy to appear very large but debt also creates more ____ in an economy. Inevitability Surety Certainty Risk Business
Why do companies often prefer debt financing to other forms of financing for capitalinvestments?a. Actually, they don't prefer debt financing. They usually try to use retainedearnings for capital investments.b. Because bond holders are happy to just break even on their bonds.c. Because the MARR all but guarantees the projects will return yields greater thanthe interest on the loans.d. Because debt interest is tax deductible, reducing significantly the actual cost ofborrowing money for projects.
2. If a bank wants to avoid volatility in its regulatory capital, which investment classification would be the most desirable, and which investment classification would be the least desirable? Does your answer differ depending on whether the bank is large or small? In other words, do large and small banks differ on how they can categorize unrealized gains/losses on AFS debt?
Suppose your firm’s credit rating is B-, and outlook is negative, not easy to raise finance through debt from the capital market. According to the capital structure theories we examined, benefits by having debt since the interest expense is deductible for tax purposes, creating an interest tax shield. The interest tax shield, on the other hand, increases in value the higher the coupon rate on the debt and the higher the tax rate. Shouldn't the firm then choose to raise as much debt as possible or pay as high a coupon rate as possible given the low credit rating? As CFO, what kinds of concerns you have to issue as much debt as possible, and high coupon rate increase the benefits of tax shields? (300 words limit with bulletin points to answer the above questions)
4. Which of the following is false about the risk-shifting problem? Risk-shifting leads to a transfer of value from debt-holders to equity holders Risk-shifting leads prospective lenders to pay less for debt and require higher interest payments Risk-shifting arises when shareholders choose negative NPV projects with higher risk Risk-shifting is an example of an agency cost of debt Risk-shifting is greater in firms with low leverage
5.(True or False) Risk shifting refers to a situation in which management of a firm with risky debt cannot fund a positive NPV project with equity because equityholders understand that some of the returns of the positive NPV project go to debtholders
11.Explain why a firm needs to understand their allocation of debtfinancing to equity (the amount the owner used to fund thebusiness). Discuss how this allocation can impact their Total DebtRatio. Can having too much debt bring down profit margins? Why orWhy Not?
Which of the following makes this a true statement? In this slightly more realistic world with corporate taxes, managers can: Multiple Choice maximize the firm's value by taking on as much equity as possible. maximize the firm's value by taking on as much debt as possible. minimize the firm's value by taking on as much debt as possible. maximize the firm's value by financing only with debt.
Which of the following statements are incorrect regarding how much debt a company should borrow? Choose all that apply. Question 9 options: A As long as the company can generate higher returns on its new projects than its borrowing interest rate, borrowing more debt will enhance the company's ROE. B Borrowing more debt will increase a company's distress level. C The bigger the company, the more it should borrow D Debt is considered a more expensive capital source.
Which of the following statement is incorrect about the Peking Order Theory? A.Firms with high ratios of fixed assets tend to have higher debt ratio.The evidence exclusively supports the peking order theory B.When exernal finance is required,firms issue debt first and equity as a last resort C.Most profitable firms borrow less not because they have lower target debt but because they don't need external finance D.Firms prefer internal finance since funds can be raised without sending advers signals
Which statement is most correct? * A. Since debt financing raises the firm’s financial risk, increasing debt ratio will increase WACC. B. Since debt financing is cheaper than equity financing, increasing debt ratio will reduce WACC. C. Increasing a firm’s debt ratio will typically reduce the marginal costs of both debt and equity financing; however, it still may raise the firm’s WACC. D. Statements a and c are correct. E. None of the above