According to MM propositions, which of the following statements best describes the consequence of decreasing debt-to-value ratio for a firm?O The cost of equity capital decreases.O The weighted average cost of capital decreases.O The weighted average cost of capital must not stay constant.O The weighted average cost of capital increases.

The M&M Theorem, or the Modigliani-Miller Theorem is a capital structure theory developed by…

According to MM propositions, which of the following statements best describes the consequence of decreasing debt-to-value ratio for a firm? The cost of equity capital decreases. The weighted average cost of capital decreases. The weighted average cost of capital must not stay constant. The weighted average cost of capital increases.

According to MM propositions, which of the following statements best describes the consequence of decreasing debt-to-value ratio for a firm? The cost of equity capital decreases. The weighted average cost of capital decreases. The weighted average cost of capital must not stay constant. The weighted average cost of capital increases.

Financial Reporting, Financial Statement Analysis and Valuation

8th Edition

ISBN:9781285190907

Author:James M. Wahlen, Stephen P. Baginski, Mark Bradshaw

Publisher:James M. Wahlen, Stephen P. Baginski, Mark Bradshaw

Chapter5: Risk Analysis

Section: Chapter Questions

Problem 2QE

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According to MM propositions, which of the following statements best describes the consequence of increasing debt-to-value ratio for a firm? Group of answer choices The weighted average cost of capital can decrease. The weighted average cost of capital can increase. The cost of equity capital can decrease. The weighted average cost of capital must not stay constant.
For each statement indicate whether it is true or false and briefly explain why. a) In a perfect capital market with no corporate taxes, as a firm takes on more and more debt its weighted average cost of capital remains unchanged while its required return on equity rises. b) If a firm issues riskfree debt the risk of the firm’s equity will not change. So, riskfree debt allows the firm to get the benefit of a low cost of debt without raising its cost of equity. c) In the context of firms’ capital structure decisions, the theory predicts that the value of a firm’s equity will rise in direct proportion to the level of debt in its capital structure.
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? 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?
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?
Which of the following is a valid reason for a firm not to use as much debt as it can raise? Group of answer choices The use of more debt is expected to result in an increase in the firmʹs cost of capital when everything is considered More debt will increase the firmʹs riskiness All of them are valid reasons for a firm to use less debt than might be available The use of more debt is expected to result in a lower price/earnings ratio
In the MM model, as the proportion of debt in the capital structure increases, the cost of equity a. increases. b. decreases. c. remains unchanged; there is no relationship between the two. d. initially rises rapidly, then increases slowly beyond some point.
According to Modigliani & Miller M Proposition II (MM Il), as a firm's debt-equity ratio decreases, what happens to the required rate of return on equity? Briefly explain including the key aspect of MM II.
Consider the following statements: The main lesson to be learned from the Modigliani and Miller theory of capital structure assuming perfect markets and no taxation is that: I. a firm cannot affect its value by changing its capital structure II. the value of the firm is determined by its total cash flows III. the weighted average cost of capital increases as financial leverage decreases IV. the weighted average cost of capital decreases as financial leverage decreases V. the weighted average cost of capital remains the same whatever the level of financial leverage. Which of the statements is true? Select an answer and submit. For keyboard navigation, use the up/down arrow keys to select an answer. a I and V only I, Il and V only II, II and IV only None of the above I and Il only
Consider the following statements: The main lesson to be learned from the Modigliani and Miller theory of capital structure assuming perfect markets and no taxation is that: I. a firm cannot affect its value by changing its capital structure II. the value of the firm is determined by its total cash flows III. the weighted average cost of capital increases as financial leverage decreases IV. the weighted average cost of capital decreases as financial leverage decreases V. the weighted average cost of capital remains the same whatever the level of financial leverage. Which of the statements is true? Select an answer and submit. For keyboard navigation, use the up/down arrow keys to select an answer. a I and V only b I, II and V only c II, III and IV only d None of the above e I and II only
In many instances, book value, rather than market value, may be used to determine the weighted average cost of capital. This is because of all of the following EXCEPT ____, a. the market prices of the various sources of capital are not easily estimated b. book value is a more accurate value in determining the actual cost of capital c. market values change daily d. many firms have several different issues of debt which may not be publicly held
Under normal circumstances, the weighted average cost of capital is used as the firm's required rate of return because a. as long as the firm's investments earn returns greater than the cost of capital, the value of the firm will increase b. it is comparable to the average of all the interest rates on debt that currently prevail in the financial markets c. returns below the cost of capital will cover all the fixed costs associated with capital and provide excess returns to the firm's stockholders
Which of the following statements is false?(a) The quickest way to determine whether a firm has too much debt is to calculate the debt-to-equity ratio.(b) The best guideline to determine the firm's liquidity is to calculate the current ratio.(c) From the investor's point of view, the rate of return on common equity is a good indicator of whether the firm is generating an acceptable return to the investor.( d) We can determine the operating margin by expressing net income as a percentage of total sales.