Fundamentals of Corporate Finance
11th Edition
ISBN: 9781259870576
Author: Ross
Publisher: MCG
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Textbook Question
Chapter 16, Problem 4CRCT
Observed Capital Structures [LO1] Refer to the observed capital structures given in Table 16.7 of the text. What do you notice about the types of industries with respect to their average debt–equity ratios? Are certain types of industries more likely to be highly leveraged than others? What are some possible reasons for this observed segmentation? Do the operating results and tax history of the firms play a role? How about their future earnings prospects? Explain.
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3
S1. Although the exact relationship between a firm's degree of financial leverage and its beta is difficult to estimate, it has been shown both theoretically and empirically that a firm's beta increases with its degree of financial leverage.
S2. As the debt ratio rises, the WACC is reduced because the after-tax cost of debt is usually lower than the cost of equity. What limits the substitution of debt for equity in the capital structure is that as the debt ratio rises the costs of both components eventually increase.
Group of answer choices
Statement 1 is true
Statement 2 is true
Both statements are true
Both statements are false
p18
Which of the following is true of debt financing?
Firms whose sales are very stable are more likely to rely on debt financing than firms whose sales are volatile.
Firms that pay dividends are more likely to use less debt financing than firms that retain most of their current earnings.
Firms that are subject to a great degree of operating leverage are more likely to use debt financing than firms that don’t utilize fixed costs.
All of the above
p14
More profitable firms have less debt, which supports the trade-off theory.
True
False
Chapter 16 Solutions
Fundamentals of Corporate Finance
Ch. 16.1 - Why should financial managers choose the capital...Ch. 16.1 - What is the relationship between the WACC and the...Ch. 16.1 - What is an optimal capital structure?Ch. 16.2 - Prob. 16.2ACQCh. 16.2 - Prob. 16.2BCQCh. 16.2 - Prob. 16.2CCQCh. 16.3 - What does MM Proposition I state?Ch. 16.3 - What are the three determinants of a firms cost of...Ch. 16.3 - Prob. 16.3CCQCh. 16.4 - What is the relationship between the value of an...
Ch. 16.4 - If we consider only the effect of taxes, what is...Ch. 16.5 - Prob. 16.5ACQCh. 16.5 - What are indirect bankruptcy costs?Ch. 16.6 - Can you describe the trade-off that defines the...Ch. 16.6 - What are the important factors in making capital...Ch. 16.7 - Prob. 16.7ACQCh. 16.7 - What is the difference between a marketed claim...Ch. 16.7 - What does the extended pie model say about the...Ch. 16.8 - Prob. 16.8ACQCh. 16.8 - Why might firms prefer not to issue new equity?Ch. 16.8 - Prob. 16.8CCQCh. 16.9 - Do U.S. corporations rely heavily on debt...Ch. 16.9 - What regularities do we observe in capital...Ch. 16.10 - Prob. 16.10ACQCh. 16.10 - Prob. 16.10BCQCh. 16 - Maximizing what will maximize shareholder value?Ch. 16 - What is most closely related to a firms use of...Ch. 16 - Give an example of a direct cost of bankruptcy.Ch. 16 - Prob. 16.7CTFCh. 16 - Prob. 1CRCTCh. 16 - Prob. 2CRCTCh. 16 - Optimal Capital Structure [LO1] Is there an easily...Ch. 16 - Observed Capital Structures [LO1] Refer to the...Ch. 16 - Financial Leverage [LO1] Why is the use of debt...Ch. 16 - Homemade Leverage [LO1] What is homemade leverage?Ch. 16 - Prob. 7CRCTCh. 16 - Prob. 8CRCTCh. 16 - Prob. 9CRCTCh. 16 - Prob. 10CRCTCh. 16 - Prob. 1QPCh. 16 - Prob. 2QPCh. 16 - Prob. 3QPCh. 16 - Prob. 4QPCh. 16 - MM and Stock Value [LO1] In Problem 4, use MM...Ch. 16 - Prob. 6QPCh. 16 - Prob. 7QPCh. 16 - Prob. 8QPCh. 16 - Homemade Leverage and WACC [LO1] ABC Co. and XYZ...Ch. 16 - Prob. 10QPCh. 16 - MM and Taxes [LO2] In the previous question,...Ch. 16 - Calculating WACC [LO1] Twice Shy Industries has a...Ch. 16 - Calculating WACC [LO1] Braxton Corp. has no debt...Ch. 16 - MM and Taxes [LO2] Meyer Co. expects its EBIT to...Ch. 16 - Prob. 15QPCh. 16 - MM [LO2] Tool Manufacturing has an expected EBIT...Ch. 16 - Prob. 17QPCh. 16 - Homemade Leverage [LO1] The Day Company and the...Ch. 16 - Weighted Average Cost of Capital [LO1] In a world...Ch. 16 - Cost of Equity and Leverage [LO1] Assuming a world...Ch. 16 - Business and Financial Risk [LO1] Assume a firms...Ch. 16 - Stockholder Risk [LO1] Suppose a firms business...Ch. 16 - Prob. 1MCh. 16 - Prob. 2MCh. 16 - Prob. 3MCh. 16 - Stephenson Real Estate Recapitalization Stephenson...Ch. 16 - Stephenson Real Estate Recapitalization Stephenson...
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- 9.Which of the following are true according to the Modigliani and Miller propositions? i.In a world without taxes, all else equal, the value of a firm with a low debt-to-equity ratio is higher than the value of a firm with a high debt-to-equity ratio.ii.In a world without taxes, a firm's cost of equity capital increases as the firm takes on more debt.iii.In a world with taxes, firm value is maximized when the firm has a low debt-to-equity ratio. iv.In a world with taxes, a firm's cost of equity capital increases as the firm takes on more debt.a.ii, iii, and iv, but not ib.i, iii, and iv, but not iic.ii and iv, but not i or iiid.i, ii, and iii, but not ivarrow_forward16) Consider the following statements: The traditional view of capital structure with no taxation or bankruptcy costs is: I. At low levels of debt there is a gain to the firm from taking on more debt II. There is an optimal capital structure III. The weighted average cost of capital is unaffected by the debt-equity ratio Which of the following is correct? a. I, II and III b. I and II only c. I and III only d. II and III only e. I only. 17) In relation to the efficient markets hypothesis, consider the following observations: I. Mutual fund managers do not on average make superior returns. II. In any year approximately 50 percent of all pension funds outperform the market. III. It is possible to make superior returns by buying or selling stocks after the announcement of an abnormal rise in earnings. IV. Managers who trade in their own stocks make superior returns. Which of the following statements is TRUE? a. I does not provide evidence against semi-strong form efficiency, but II does…arrow_forward15. Explain why net capital outflows and the real interest rate have an inverse relationship. Why do NCOs decrease as interest rates rise? Why do NCOs increase as interest rates fall? Use Graphs!arrow_forward
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- D3) The pecking-order theory of capital structure implies that firms will always prefer to issue debt over equity. Explain why firms might be reluctant to issue equity and what will happen to the stock price if a firm issues equity.arrow_forwardAssume that cost of debt = 8%; unlevered cost of capital = 10%; systematic risk of the asset is 1.5. What are the values of the unlevered and levered firms?arrow_forwardQuestion 22 Which of the following is generally a long term source of finance? A Corporate Bonds B Debt factoring C Trade Credit D Overdraftarrow_forward
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