Q&A Hero

Q: Use the following information to answer the following question(s). Your firm is planning a 2 for 1 stock split. The market price for the stock has been $84. The table below presents the equity portion of your firm's balance sheet before the split. Common stock Par value (1 million shares outstanding; $4 par value) $4,000,000 Paid-in capital 16,000,000 Retained earnings 30,000,000 Total equity $50,000,000 After the stock split, the number of shares outstanding, their par value and the total common stock account will stand at: A) 2,000,000; $4.00; $8,000,000. B) 500,000; $8.00; $4,000,000. C) 2,000,000; $2.00; $4,000,000. D) 500,000; $2.00, $2,000,000.

Q: EG's board of directors announced a quarterly dividend of 25 cents. The ex-dividend date is November 3. On November 2, EG's stock closed at $40.00 per share. What is the most likely opening price on November 3? A) $40.25 B) $39.75 C) $41.00 D) $39.00

Q: The date upon which a dividend is formally declared by the board of directors is the ________ date. A) declaration B) record C) payment D) ex-dividend

Q: Use the following information to answer the following question(s). Your firm is planning to pay a 15% stock dividend. The market price for the stock has been $84. The table below presents the equity portion of your firm's balance sheet before the dividend. Common stock Par value (1 million shares outstanding; $4 par value) $4,000,000 Paid-in capital 16,000,000 Retained earnings 30,000,000 Total equity $50,000,000 If instead of a stock dividend, your firm decided to split the stock 2-1, then the number of shares outstanding and their par value per share would be: A) 1 million; $4. B) 1 million; $8. C) 2 million; $2. D) 2 million; $4.

Q: Use the following information to answer the following question(s). Your firm is planning to pay a 15% stock dividend. The market price for the stock has been $84. The table below presents the equity portion of your firm's balance sheet before the dividend. Common stock Par value (1 million shares outstanding; $4 par value) $4,000,000 Paid-in capital 16,000,000 Retained earnings 30,000,000 Total equity $50,000,000 Which of the following would result from payment of the stock dividend? A) Total equity would remain at $50,000,000. B) Total equity would increase to $57,500,000. C) Total equity would decrease to $43,478,261. D) The effect on the equity account would depend on the market's reaction to the dividend.

Q: The ________ designates the date on which the stock transfer books are closed in regard to a dividend payment. A) declaration date B) ex-dividend date C) date of record D) payment date

Q: Five years ago, Mr. Martinez purchased 1000 shares of JPM stock at $50 per share. If Mr. Martinez ' tax rate is 25% would he prefer that the company pay a $5.00 per share dividend or offer to repurchase 100 shares at $50 per share? A) Pay the dividend because he would have no transaction costs. B) It would make no difference because he would receive $5,000 either way. C) Repurchase the stock because he would owe no taxes. D) It would make no difference because the tax rate on dividends is the same as the tax rate on capital gains.

Q: The only definite result from a stock dividend or a stock split is: A) an increase in the P/E ratio. B) an increase in the common stock's market value. C) an increase in the number of shares outstanding. D) cannot be determined from the above.

Q: The final approval of a dividend payment comes from the: A) controller. B) president of the company. C) board of directors. D) Chief Financial Officer.

Q: For accounting purposes, a stock split has been defined as a stock dividend exceeding: A) 25%. B) 35%. C) 45%. D) 55%.

Q: Assume that on January 1 a firm announces that on June 30 they will pay a dividend of $2.50 per share to holders of record on March 30. When does the stock sell ex-dividend? A) January 5 B) April 5 C) March 28 D) July 5 E) June 25

Q: A stock split will cause changes in the dollar value of which of the following? A) The total value of an investment in the company's stock B) The book value of common equity C) The market value of common equity D) The price of the stock

Q: Most stock splits: A) increase the number of shares outstanding. B) increase the value of the company. C) tend to raise the price of the stock. D) all of the above.

Q: If a firm's EPS are $8.33, and the firm is paying a dividend of $1.25 per share, what is the firm's dividend payout ratio? A) 33% B) 6% C) 15% D) 25% E) 66%

Q: Which of the following motivates corporations to split their common stock? A) To keep the price of the firm's common stock within an optimum price range B) To increase retained earnings C) To reallocate capital to shareholders D) To increase their paid-in capital

Q: Which of the following is the most widely accepted reason that motivates corporations to pay stock dividends? A) To keep the firm's beta within its optimal range B) To conserve cash C) To reallocate capital to shareholders D) All of the above

Q: A stock dividend will cause changes in the dollar value of which of the below capital accounts? A) Common stock B) Additional paid-in capital C) Retained earnings D) All of the above

Q: Trendy Corp. recently declared a 10% stock dividend. As of the date of the announcement, Trendy had 10 million shares outstanding which were selling on the NYSE for $50 per share. An accounting entry is required on the balance sheet in order to transfer an amount from retained earnings to the common stock and additional paid-in capital accounts. What is the dollar amount of retained earnings that will be transferred from retained earnings to the common stock account as the result of the stock dividend? Assume that the par value of Trendy is $2 per share. A) $6 million B) $5 million C) $4 million D) $3 million E) $2 million

Q: Which of the following describes the effect of a stock dividend? A) A stock dividend immediately increases the market price of a share of stock. B) A stock dividend immediately decreases the paid-in capital account. C) A stock dividend immediately increases the number of shares outstanding. D) A stock dividend indicates that the company must be short on cash.

Q: ZZZ Corporation has declared a stock dividend that pays one share of stock for every 10 shares owned. What will happen to EPS immediately upon the distribution of the stock dividend? A) There is not enough information to know. B) EPS will increase by 10%. C) EPS will not be affected by the stock dividend. D) EPS will decrease by 10%.

Q: Assume that Home Depot's annual dividend is $0.96 per share. This dividend would most likely be paid as: A) $0.48 twice a year. B) $0.96 once a year. C) whenever the company had extra cash. D) $0.24 four times per year.

Q: The ex-dividend date is ________ the holder of record date. A) five days before B) two weeks before C) two days before D) three days after

Q: In response to a temporary decline in earnings per share, most companies would: A) decrease their cash dividend. B) not decrease their cash dividend. C) suspend their cash dividend. D) substitute a stock dividend for the cash dividend.

Q: A company whose rate of return on investments is higher than the interest rate on its debt is said to have: A) unfavorable financial leverage. B) a sub-optimal capital structure. C) favorable financial leverage. D) negative financial leverage.

Q: A company that earns a rate of return on its investments lower than the interest rate on its debt is said to have: A) unfavorable financial leverage. B) a sub-optimal capital structure. C) favorable financial leverage. D) negative financial leverage.

Q: Which of the following should be excluded from a firm's capital structure? A) Common equity B) Non-interest bearing debt C) Long-term debt D) Short-term bank notes

Q: Tremont Inc.'s Total Assets =$25 million. The balance sheet shows Accounts payable and accruals totaling $7 million, common stock and retained earnings total $10 million. There is no preferred stock. What is the book value of interest bearing debt? A) $15 million B) $7 million C) $18 million D) $8 million

Q: Fibonacci Property Management's balance sheet shows total liabilities of $5 million and total assets of $13 million. Interest bearing liabilities total $3 million (book value). The market value of Fibonnacci's equity is $21 million. Fibonacci's Debt to Value ratio is ________. A) .38 B) .23 C) .125 D) .24

Q: Fibonacci Property Management's balance sheet shows total liabilities of $5 million and total assets of $13 million. Interest bearing liabilities total $3 million (book value). The market value of Fibonnacci's equity is $21 million. Fibonacci's debt ratio is ________. A) .38 B) .23 C) .125 D) .24

Q: Cornucopia's liabilities and equity are shown below: Accounts Payable $500,000 Accrued Expenses 250,000 Short-term Note at 5% 300,000 Long-Term Debt 1,250,000 Common Equity, Book Value 2,500,000 Common Equity, Market Value 6,000,000 Cornucopia's debt to value ratio is ________. A) .48 B) .32 C) .21 D) .30

Q: Cornucopia's liabilities and equity are shown below: Accounts Payable $500,000 Accrued Expenses 250,000 Short-term Note at 5% 300,000 Long-Term Debt 1,250,000 Common Equity, Book Value 2,500,000 Common Equity, Market Value 6,000,000 Cornucopia's debt ratio is ________. A) .48 B) .32 C) .21 D) .30

Q: Merrimac Brewing company's total assets equal $18 million. The book value of Merrimac's equity is $6 million. The market value of Merrimac's equity is $10 million. It's Debt to Value ratio is .5. What is Merrimac's Debt Ratio? A) .75 B) .67 C) .33 D) .25

Q: Merrimac Brewing company's total assets equal $18 million. The book value of Merrimac's equity is $6 million. The market value of Merrimac's equity is $10 million. It's Debt to Value ratio is .5. What is the book value of Merrimac's interest- bearing debt? A) $5 million B) $10 million C) $15 million D) $20 million

Q: Which of the following is NOT a component of a firm's capital structure? A) Preferred stock B) Bonds C) Common stock D) Accounts payable E) Retained earnings

Q: The primary objective of capital structure management is to find the combination of funding sources that will minimize the A) interest rate. B) WACC. C) probability of financial distress. D) cost of equity.

Q: A firm's capital structure consists of which of the following? A) The amount of debt that a firm utilizes B) The amount of debt and preferred stock that a firm utilizes C) The amount of debt, preferred stock, and common stock that a firm utilizes D) None of the above

Q: Suppose we calculate a times interest earned ratio of 29 for Colgate-Palmolive. We can conclude: A) Colgate-Palmolive may experience some difficulty meeting it's interest payments. B) Colgate-Palmolive is very unlikely to have difficulty meeting it's interest payments. C) Colgate-Palmolive has $29 of operating cash flow for every dollar of interest expense. D) Colgate-Palmolive's EBITDA is 29 times larger than its interest expense.

Q: The firm's optimal capital structure is the mix of financing sources that: A) minimizes the risk of financial distress. B) maximizes after-tax earnings. C) maximizes the total value of the firm's debt and equity. D) all of the above.

Q: Allston-Brighton Corp. has total assets of $10 million, total liabilities of $4 million, of which $1 million are non-interest bearing. Interest expense was $180,000. Earnings before interest and taxes were $2.5 million. Depreciation was $1.5 million. Compute the following ratios: Debt ratio, Interest-bearing debt ratio, Times interest earned ratio, and EBITDA coverage ratio.

Q: Sunshine Candy Company's capital structure for the past year of operation is shown below. First mortgage bonds at 12% $2,000,000 Debentures at 15% 1,500,000 Common stock (1 million shares) 5,000,000 Retained earnings 500,000 Total $9,000,000 The federal tax rate is 50%. Sunshine Candy Company, home-based in Orlando, wants to raise an additional $1 million to open new facilities in Tampa and Miami. The firm can accomplish this via two alternatives: (1) it can sell a new issue of 20-year debentures with 16% interest; or (2) 20,000 new shares of common stock can be sold to the public to net the candy company $50 per share. A recent study, performed by an outside consulting organization, projected Sunshine Candy Company's long-term EBIT level at approximately $6.8 million. Find the indifference level of EBIT (with regard to EPS) between the suggested financing plans.

Q: The MAX Corporation is planning a $4 million expansion this year. The expansion can be financed by issuing either common stock or bonds. The new common stock can be sold for $60 per share. The bonds can be issued with a 12% coupon rate. The firm's existing shares of preferred stock pay dividends of $2.00 per share. The company's combined state and federal corporate income tax rate is 46%. The company's balance sheet prior to expansion is as follows: MAX Corporation Current assets $2,000,000 Fixed assets 8,000,000 Total assets $10,000,000 Current liabilities $1,500,000 Bonds: (8%, $1,000 par value) 1,000,000 (10%, $1,000 par value) 4,000,000 Preferred stock: ($100 par value) 500,000 Common stock: ($2 par value) 700,000 Retained earnings 2,300,000 Total liabilities and equity $10,000,000 a. Calculate the indifference level of EBIT between the two plans. b. If EBIT is expected to be $3 million, which plan will result in higher EPS?

Q: Young Enterprises is financed entirely with 3 million shares of common stock selling for $20 a share. Capital of $4 million is needed for this year's capital budget. Additional funds can be raised with new stock (ignore dilution) or with 13% 10-year bonds. Young's tax rate is 40%. a. Calculate the financing plan's EBIT indifference point. b. Does the "indifference point" calculated in question (a) above truly represent a point where stockholders are indifferent between stock and debt financing? Explain your answer.

Q: Roberts, Inc. is trying to decide how best to finance a proposed $10 million capital investment. Under Plan I, the project will be financed entirely with long-term 9% bonds. The firm currently has no debt or preferred stock. Under Plan II, common stock will be sold to net the firm $20 a share; presently, 1 million shares are outstanding. The corporate tax rate for Roberts is 40%. a. Calculate the indifference level of EBIT associated with the two financing plans. b. Which financing plan would you expect to cause the greatest change in EPS relative to a change in EBIT? Why? c. If EBIT is expected to be $3.1 million, which plan will result in a higher EPS?

Q: Benchmarking the company's capital structure is popular because it is impossible to know exactly what the company's optimal capital structure should be.

Q: High coverage ratios, compared with a standard, imply unused debt capacity.

Q: Comparative leverage ratio analysis does not involve the use of industry norms.

Q: The EBIT-EPS indifference point, sometimes called the break-even point, identifies the optimal range of financial leverage regardless of the financing plan chosen by the financial manager.

Q: Which of the following factors was most often cited by CFOs as an important influence on debt use? A) Keeping the confidence of customers and suppliers B) Minimizing bankruptcy costs C) Maintaining financial flexibility D) Benchmarking against similar firms

Q: Useful ratios for benchmarking a firm's capital structure include: A) the Debt ratio. B) Times Interest Earned ratio. C) EBITDA coverage ratio. D) all of the above.

Q: The level of EBIT that will equate EPS between two different financing plans is called the: A) indifference point. B) optimal capital plan. C) break-even point. D) both A and C.

Q: A firm is analyzing two different capital structures for financing a new asset that will cost $100,000. The effects of the two structures on the firm's balance sheet are described below. Plan A: finance with 50% debt New asset $100,000 Debt $50,000 Common equity $50,000 Total $100,000 Plan B: finance with 70% debt New asset $100,000 Debt $70,000 Common equity $30,000 Total $100,000 Based on the information provided, we can conclude that: A) if the firm chooses Plan A, then any changes in the firm's EBIT will lead to larger fluctuations in the firm's EPS than if the firm chooses Plan B. B) if the firm chooses Plan B, then any changes in the firm's EBIT will lead to larger fluctuations in the firm's EPS than if the firm chooses Plan A. C) if the firm chooses Plan A, then any changes in the firm's EBIT will lead to the same fluctuations in the firm's EPS as will occur if the firm chooses Plan B. D) if the firm chooses Plan B, then any changes in the firm's EBIT will lead to smaller fluctuations in the firm's EPS than if the firm chooses Plan A.

Q: Use the following information to answer the following question(s). Your firm is trying to determine whether it should finance a project requiring $800,000 with new common stock or with debt. The firm is faced with the following financing alternatives: I: Issue new common stock. Sale price of the common stock is expected to be $40 per share. II: Issue new bonds with a coupon rate of 12%. The firm has a marginal tax rate of 34%, the company currently has 40,000 shares of common stock outstanding, and $90,000 face value of 10% debt outstanding. EPS at the indifference level of EBIT is: A) $3.17. B) $4.80. C) $5.27. D) $5.90.

Q: Use the following information to answer the following question(s). Your firm is trying to determine whether it should finance a project requiring $800,000 with new common stock or with debt. The firm is faced with the following financing alternatives: I: Issue new common stock. Sale price of the common stock is expected to be $40 per share. II: Issue new bonds with a coupon rate of 12%. The firm has a marginal tax rate of 34%, the company currently has 40,000 shares of common stock outstanding, and $90,000 face value of 10% debt outstanding. The indifference level of EBIT is: A) $99,000. B) $66,600. C) $333,000. D) $297,000.

Q: Lever Brothers has a debt ratio (debt to assets) of 60%. Management is wondering if its current capital structure is too aggressive. Lever Brothers's present EBIT is $3 million, and profits available to common shareholders are $1,440,000, with 228,571 shares of common stock outstanding. If the firm were to instead have a debt ratio of 20%, reduced interest expense would cause profits available to stockholders to increase to $1,680,000, but 457,143 common shares would be outstanding. What is the difference in EPS at a debt ratio of 20% versus 60%? A) $-1.76 B) $-2.63 C) $-3.14 D) $-4.37

Q: Lever Brothers has a debt ratio (debt to assets) of 40%. Management is wondering if its current capital structure is too conservative. Lever Brothers's present EBIT is $3 million, and profits available to common shareholders are $1,560,000, with 342,857 shares of common stock outstanding. If the firm were to instead have a debt ratio of 60%, additional interest expense would cause profits available to stockholders to decline to $1,440,000, but only 228,571 common shares would be outstanding. What is the difference in EPS at a debt ratio of 60% versus 40%? A) $1.75 B) $2.00 C) $3.25 D) $4.50

Q: Lever Brothers has a debt ratio (debt to assets) of 20%. Management is wondering if its current capital structure is too conservative. Lever Brothers's present EBIT is $3 million, and profits available to common shareholders are $1,680,000, with 457,143 shares of common stock outstanding. If the firm were to instead have a debt ratio of 40%, additional interest expense would cause profits available to stockholders to decline to $1,560,000, but only 342,857 common shares would be outstanding. What is the difference in EPS at a debt ratio of 40% versus 20%? A) $2.12 B) $1.95 C) $1.16 D) $0.88

Q: Zybeck Corp. projects operating income of $4 million next year. The firm's income tax rate is 40%. Zybeck presently has 750,000 shares of common stock which have a market value of $10 per share, no preferred stock, and no debt. The firm is considering two alternatives to finance a new product: (a) the issuance of $6 million of 10% bonds, or (b) the issuance of 60,000 new shares of common stock at $10 per share. If Zybeck issues common stock this year, what will the firm's return on equity be next year? A) 16.7% B) 18.2% C) 22.1% D) 26.4% E) 29.6%

Q: Zybeck Corp. projects operating income of $4 million next year. The firm's income tax rate is 40%. Zybeck presently has 750,000 shares of common stock which have a market value of $10 per share, no preferred stock, and no debt. The firm is considering two alternatives to finance a new product: (a) the issuance of $6 million of 10% bonds, or (b) the issuance of 60,000 new shares of common stock. There are no issuance costs for either the bonds or the stock. If Zybeck issues common stock this year, what will projected EPS be next year? A) $2.10 B) $2.96 C) $2.33 D) $1.67

Q: Farar, Inc. projects operating income of $4 million next year. The firm's income tax rate is 40%. Farar presently has 750,000 shares of common stock, no preferred stock, and no debt. The firm is considering the issuance of $6 million of 10% bonds to finance a new product that is not expected to generate an increase in income for two years. If Farar issues the bonds this year, what will projected EPS be next year? A) $1.53 B) $1.98 C) $2.33 D) $2.72 E) $3.12

Q: Weaknesses of the EBIT-EPS analysis include: A) that it disregards the implicit costs of debt financing. B) that it ignores the effect of the specific financing decision on the firm's cost of common equity capital. C) that it considers only the level of the earnings stream and ignores the variability inherent in it. D) all of the above.

Q: Use the following information to answer the following question(s). Your firm is trying to determine whether it should finance a project requiring $800,000 with new common stock or with debt. The firm is faced with the following financing alternatives: I: Issue new common stock. Sale price of the common stock is expected to be $40 per share. II: Issue new bonds with a coupon rate of 12%. The firm has a marginal tax rate of 34%, the company currently has 40,000 shares of common stock outstanding, and $90,000 face value of 10% debt outstanding. The total interest obligation will be: A) $105,000 under alternative I and $9,000 under alternative II. B) $9,000 under alternative I and $105,000 under alternative II. C) zero under alternative I and $96,000 under alternative II. D) $105,000 under both alternative I and alternative II.

Q: Use the following information to answer the following question(s). Your firm is trying to determine whether it should finance a project requiring $800,000 with new common stock or with debt. The firm is faced with the following financing alternatives: I: Issue new common stock. Sale price of the common stock is expected to be $40 per share. II: Issue new bonds with a coupon rate of 12%. The firm has a marginal tax rate of 34%, the company currently has 40,000 shares of common stock outstanding, and $90,000 face value of 10% debt outstanding. Total shares outstanding will be: A) 20,000 under alternative I and zero under alternative II. B) 40,000 under alternative I and 60,000 under alternative II. C) 60,000 under alternative I and 40,000 under alternative II. D) 60,000 under both alternative I and alternative II.

Q: The capital structure that minimizes the weighted average cost of capital will also: A) maximize EPS for any given level of EBIT. B) minimize the value of the firm. C) minimizes bankruptcy costs. D) maximize the price per share of common stock.

Q: As a general rule, the optimal capital structure: A) maximizes expected EPS and also maximizes the price per share of common stock. B) minimizes the interest rate on debt and also maximizes the expected EPS. C) minimizes the required rate on equity and also maximizes the stock price. D) maximizes the price per share of common stock and also minimizes the weighted average cost of capital.

Q: The EBIT-EPS indifference point: A) identifies the EBIT level at which the EPS will be the same regardless of the financing plan. B) identifies the point at which the analysis can use EBIT and EPS interchangeably. C) identifies the level of earnings at which the management is indifferent about the payments of dividends. D) none of the above.

Q: An increase in the ________ is likely to encourage a corporation to increase its debt ratio. A) corporate tax rate B) personal tax rate C) company's degree of operating leverage D) expected cost of bankruptcy

Q: Basic tools of capital structure management include: A) EBIT-EPS analysis. B) comparative profitability ratios. C) capital budgeting techniques. D) none of the above.

Q: When using an EPS-EBIT chart to evaluate a pure debt financing and pure equity financing plan, the debt financing plan line will have: A) a steeper slope than the equity financing plan line. B) a slower rate of change as EBIT increases. C) a downward slope. D) the same slope as the equity plan, but a higher intercept.

Q: If a firm chose to increase its debt ratio from 20% to 40%, what is the potential risk? A) The average cost of capital would most likely rise. B) The price of the firm's common stock would definitely decline. C) If economic forces cause a reduction of sales, the firm's EPS might decline. D) The firm's WACC might decline.

Q: When benchmarking a firm's capital structure, management should compare it: A) firms in S&P 500. B) firms in the same geographic region. C) firms recognized for the quality of their management. D) firms in similar lines of business.

Q: Which two ratios would be most helpful in managing a firm's capital structure? A) Book Debt to Equity, Current Ratio B) Debt to Value Ratio and Times Interest Earned C) Debt to Assets, Profit Margin D) Payables Turnover, Return on Assets

Q: Waltham Watch Comparable Firms Debt ratio 33% 42% Interest -bearing debt ratio 19% 23 Times interest earned ratio 25 20 EBITDA coverage ratio 6 4 From the table above we can conclude: A) Waltham has a conservative capital structure policies. B) Waltham has too much debt. C) Waltham uses more leverage than the typical firm in its industry. D) Waltham's EPS would be more sensitive than a typical firm's to changes in EBIT.

Q: List and briefly explain at least two important reasons why capital structures tend to differ between industries and even companies within the same industry.

Q: Companies faced with higher tax burdens are likely to use more debt.

Q: U. S. companies differ very little in their capital structures.

Q: For all U.S. companies the Debt to Value ratio is about: A) 12%. B) 90%. C) 33%. D) 42%.

Q: Which of the following is a good reason for a company to have higher than average debt ratios. A) The company's cash flows are difficult to predict. B) The company generates little taxable income. C) Customer support is an important aspect of the company's business. D) The company faces high marginal tax rates.

Q: In which countries would you expect companies to have the lowest leverage ratios? A) Countries with very high tax rates. B) Countries that tend to subsidize key industries and protect them from failure. C) Countries where creditors have very strong legal protection. D) Countries where the market value of companies is high compared to their book values.

Q: Which industry would you expect to have the highest Debt to Asset ratios? A) Business oriented software B) Electric utilities C) Communications equipment D) Retail clothing

Q: Which of the following factors favors the use of more debt in a company's financial structure? A) High levels of taxable income B) Low levels of taxable income C) The business is basically risky with unpredictable cash flows. D) Risk of bankruptcy would make customers reluctant to buy the company's products.