Intermediate Financial Management
14th Edition
ISBN: 9780357516782
Author: Brigham, Eugene F., Daves, Phillip R.
Publisher: Cengage Learning
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Chapter 16, Problem 8Q
Summary Introduction
To discuss: Expectations of person X on stock prices (rise, hits a peak, decline) if a firm went from zero debt to higher debt levels.
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Why does the WACC decrease as a firm begins to take on debt and then increase after a certain point?
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Why does the WACC decrease as a company begins to take on debt and then increase after a certain point?
Chapter 16 Solutions
Intermediate Financial Management
Ch. 16 - Prob. 1QCh. 16 - Prob. 2QCh. 16 - Prob. 3QCh. 16 - One type of leverage affects both EBIT and EPS....Ch. 16 - Prob. 5QCh. 16 - Prob. 6QCh. 16 - Prob. 7QCh. 16 - Prob. 8QCh. 16 - Prob. 9QCh. 16 - Prob. 1P
Ch. 16 - Premium for Financial Risk
Ethier Enterprise has...Ch. 16 - Value of Equity after Recapitalization Nichols...Ch. 16 - Prob. 9PCh. 16 - Prob. 10PCh. 16 - Capital Structure Analysis Pettit Printing Company...Ch. 16 - Prob. 16PCh. 16 - Prob. 1MCCh. 16 - Prob. 2MCCh. 16 - Prob. 3MCCh. 16 - Prob. 6MCCh. 16 - What does the empirical evidence say about capital...
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- What make ROE(return on equity) of a company decrease further into negatives even though their financial leverage starts to rises? If a company multiplier for financial leverage starts to rise, what does it implies? Why?arrow_forwardSuppose company Z is already in financial distress and the equity holders are very close to default. Suddenly there is a shock that causes an increase in the standard deviation of the return on company Z's assets. Which of the following correctly describes the new situation faced by company Z? A) Debt value will increase with the shock and equity holder are more likely to default. B) Equity value will increase with the shock and equity holder are less likely to default. C) Both Debt value and equity value will increase but the likelihood of default is unchanged. D) Both debt value and equity value will decrease and the likehood of default will increase.arrow_forwardExplain why the following statement is true: "All else the same, firms with relatively stable sales are able to carry relatively high debt/assets ratios." If a firm went from zero debt to successively higher levels of debt, why would you expect its stock price to first rise, then hit a peak, and then begin to decline? Explain how a firm might shift its capital structure so as to change its weighted average cost of capital (WACC). What would be the impact on the value of the firm?arrow_forward
- Would the yield spread on a corporate bond over a Treasury bond with the same maturitytend to become wider or narrower if the economy appeared to be heading toward a recession?Would the change in the spread for a given company be affected by the firm’s creditstrength? Explain.arrow_forwardWould the market-value debt ratio tend to be higher than the book-value debt ratioduring a stock market boom or a recession? Explain.arrow_forwardIs the following sentence true or false? Please explain. The cost of new equity (re) could possibly be lower than the cost of reinvested earnings (rs) if the market risk premium, risk-free rate, and the company's beta all decline by a sufficiently large amount.arrow_forward
- Suppose you believe that the economy is just entering a recession. Your firm must raise capital immediately, and debt will be used. Should you borrow on a long-term or short-term basis? Why?arrow_forwardYou observe that a firm?s profit margin is below the industry average, while its return on equity and debt ratio exceed the industry average. What can you conclude?arrow_forwardExplain what this statement means: "One type of leverage affects both EBIT and EPS. The other type affects only EPS." Explain why the following statement is true: "All else the same, firms with relatively stable sales are able to carry relatively high debt/assets ratios." If a firm went from zero debt to successively higher levels of debt, why would you expect its stock price to first rise, then hit a peak, and then begin to decline? Is the debt level that maximizes a firm's expected EPS the same as the one that maximizes its stock price? Explain. Explain how a firm might shift its capital structure so as to change its weighted average cost of capital (WACC). What would be the impact on the value of the firm?arrow_forward
- DAS Co. is preparing its financial forecast for next year and its AFN is negative. This means that Select one: O a. the predicted change in total assets must be negative. O b. sales growth must be negative. O c. the dividend payout ratio must be greater than the predicted growth rate in sales. O d. the predicted change in spontaneous liabilities must be greater than the predicted change in total assets.arrow_forwardWhich of the following statements is correct? A. If a firm’s assets are growing at a positive rate, but its retained earnings are not increasing, then it would be impossible for the firm’s AFN to be negative. B. AFN is not always positive. C. If a firm increases its dividend payout ratio in anticipation of higher earnings, but sales and earnings actually decrease, then the firm’s actual AFN must, mathematically, exceed the previously calculated AFN. D. Higher sales usually require higher asset levels, and this leads to what we call AFN. However, the AFN will be zero if the firm chooses to retain all of its profits, i.e., to have a zero dividend payout ratio. E. Dividend policy does not affect the requirement for external funds based on the AFN equation.arrow_forwardBurnham Brothers Inc. has no retained earnings since it has always paid out all of its earnings as dividends. This same situation is expected to persist in the future. The company uses the CAPM to calculate its cost of equity, and its target capital structure consists of common stock, preferred stock, and debt. Which of the following events would REDUCE its WACC? The market risk premium declines. The flotation costs associated with issuing new common stock increase. The company's beta increases. Expected inflation increases. The flotation costs associated with issuing preferred stock increase.arrow_forward
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