Tut07 ans - FINS 5514 Week 7: Capital Structure 1. Which...

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FINS 5514 Week 7: Capital Structure 1. Which one of the following supports the statement that it is totally irrelevant how a firm arranges its financing? a. b. M&M Proposition I with taxes c. M&M Proposition II without taxes d. M&M Proposition II with taxes 2. _____ risk determines the required return on assets. a. Business b. Total c. Financial d. Unsystematic 3. Which one of the following is indicative of an optimal capital structure? a. maximum tax shield b. maximum debt-equity ratio c. minimum cost of capital d. minimum firm value 4. Homemade leverage refers to the: a. ability of individual investors to borrow and lend money on their own. b. ability of a firm to self-determine the amount of leverage they prefer in their capital structure. c. amount of debt a small firm arranges with their local bank. d. ratio of cash holdings of an individual as compared to their equity holdings.
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5. Capital structure is irrelevant under MM with perfect capital markets as the value of the operating cash flows is unaffected by capital structure decisions. In practice, cash flows are not independent of these decisions. Explain why this could occur for a) a company which generates large free cash flow b) a company which is highly levered. Chapter 17, Question 4 Comparing two different capital structures for a firm. All-equity plan (Plan I) and a levered plan (Plan II). Plan I: 150,000 shares of stock outstanding. Plan II: 60,000 shares of stock outstanding and 15million rupiahs in debt outstanding. Interest rate on debt is 10% and there are no taxes. a. If EBIT is 2 million rupiahs, which plan will result in higher EPS? Under Plan I, the unlevered company, net income is the same as EBIT with no corporate tax. The EPS under this capitalization will be: 13.33 IDR IDR shares of Number EBIT EPS 000 , 150 000 , 000 , 2 Under Plan II, the levered company, EBIT will be reduced by the interest payment. The interest payment is the amount of debt times the interest rate, so:   500,000 IDR 0 $15,000,00 0.10 - 2,000,000 IDR D T EBIT NI c And the EPS will be: 8.33 IDR IDR shares of Number NI EPS 000 , 60 000 , 500 Plan I has the higher EPS when EBIT is IDR2,000,000. b.
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This note was uploaded on 05/26/2011 for the course FIN 5530 taught by Professor Lee during the Three '11 term at University of New South Wales.

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Tut07 ans - FINS 5514 Week 7: Capital Structure 1. Which...

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