1
.
Sandage Auto Parts has debt outstanding with a market value of $2 million. The company’s common stock has a book value of $3 million and a market value of $8 million. What weight is equity in Sandage’s capital structure?
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11%
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20%
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60%
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80%
2
.
The capital structure of a company refers to ________.
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whether the company purchases assets or liabilities with its equity
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the proportion of debt and equity the company uses in financing is assets
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the ability of the company to use its assets to generate equity for the owners
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whether the company uses short-term assets or long-term assets to create its product
3
.
Which of the following should be used when calculating the weights for a company’s capital structure?
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Book values
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Current market values
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Historic accounting values
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Par and face values
4
.
Two methods for estimating a company’s cost of common stock capital are ________.
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the historic method and the current method
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the weighted valuation model and the beta model
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the constant dividend growth model and the CAPM
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the balance sheet method and the face value method
5
.
Which of the following would be the most reasonable approach to calculating the cost of debt for a company?
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Using the coupon rate on the company’s existing bonds
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Using the interest amount reported on the income statement
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Using the yield to maturity on the company’s existing bonds
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Multiplying the amount of debt on the company’s balance sheet by the risk-free rate
6
.
Net debt equals ________.
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Debt/Equity
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Debt × (1 – Tax Rate)
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total debt minus the cash and risk-free assets the company owns
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the yield to maturity of a company’s bonds divided by the tax rate
7
.
Unlevered equity refers to ________.
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the equity in a firm with no debt
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a firm’s equity minus the firm’s debt
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the equity in a firm in the absence of taxation and transaction costs
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the portion of a firm’s capital structure that is financed by its owners
8
.
In perfect capital markets, ________.
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a company’s WACC does not change as it changes its capital structure
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a company can lower its WACC by using more debt in its capital structure
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a company can lower its WACC by using more equity in its capital structure
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a company’s cost of debt capital is exactly equal to its cost of equity capital when the company uses 50% debt and 50% equity in its capital structure
9
.
The interest tax shield occurs because ________.
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interest payments are a tax-deductible expense
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interest payments are made from after-tax income
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investors require a lower rate of return the higher the company’s tax rate
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investors require a lower rate of return the more debt the company incurs
10
.
As a company increases the weight of debt in its capital structure, ________.
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its cost of debt capital falls
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the weight of equity capital also increases
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the value of the interest tax shield decreases
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its possibility of financial distress increases
11
.
A company is said to be in financial distress if ________.
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it is not fully exploiting the interest tax shield
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it needs to raise capital to finance a new project
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it has difficulty meeting its debt obligations
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its cost of equity capital exceeds its cost of debt capital
12
.
Issuing new stock ________.
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costs the same as retaining earnings
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will not impact a company’s WACC
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is the most expensive source of capital because of flotation costs
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is the cheapest source of capital because dividends do not have to be paid each year
13
.
If a bond with a face value of $1,000 has a conversion ratio of 10 shares, the conversion price is ________.
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$0.01
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$10
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$100
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$1,000