SMT_Ch_16

SMT_Ch_16 - Sample Midterm Answers at end Sample Questions...

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Sample Midterm – Answers at end Sample Questions - CHAPTER 16 True-False Bankruptcy costs i . Because creditors can foresee, to at least some extent, the costs of bankruptcy, they charge a higher rate of interest to compensate for the present value of bankruptcy costs. a. True b. False Business risk ii . The firm's business risk is largely determined by the financial characteristics of its industry. a. True b. False Financial risk iii . Financial risk refers to the extra risk stockholders bear as a result of the use of debt as compared with the risk they would bear if no debt were used. a. True b. False Financial risk iv . The firm's financial risk may have both market risk and diversifiable risk components. a. True b. False Financial risk v . In a stand-alone risk context, financial risk can be measured as σ ROE(L) - σ ROE(U) . a. True b. False Financial leverage vi . Whenever a firm goes into debt, it is using financial leverage. a. True b. False Use of debt financing vii . If a firm utilizes debt financing, a decrease in earnings before interest and taxes (EBIT) will result in a more than proportionate decrease in earnings per share. a. True b. False feda544e1f0dc1cc0940515c825784f1ed8d2627.doc Page 1 of 5
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Sample Midterm – Answers at end Use of financial leverage viii . The graphical probability distribution of net income, when financial leverage is used, would tend to be more peaked than a distribution where no leverage is present, other things held constant. a. True b. False Financial leverage ix . Firm A has a higher degree of business risk than Firm B. Firm A can offset this by using less financial leverage. Therefore, the variability of both firms' expected EBITs could actually be identical. a. True b. False Operating and financial leverage x . Financial leverage affects both EPS and EBIT, while operating leverage only affects EBIT. a. True b. False Trade-off theory xi . The trade-off theory tells us that the capital structure decision involves a tradeoff between the costs of debt financing and the benefits of debt financing.
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SMT_Ch_16 - Sample Midterm Answers at end Sample Questions...

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