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1、Chapter SixteenFinancial Structure of the FirmThis chapter contains 35 multiple choice questions, 13 short problems, and 9 longer problems.Multiple Choice1. In making capital structure decisions the unit of analysis is _.(a) individual departments within the firm(b) the investment project, one year
2、at a time(c) the investment project as a whole(d) the firm as a wholeAnswer: (d)2. In the “frictionless” world of Modigliani and Miller, shareholder wealth _ no matter what capital structure the firm adopts.(a) is greater(b) is less(c) is different(d) is the sameAnswer: (d)3. Examples of real world
3、“frictions” include _.(a) regulations(b) taxes(c) contract law(d) all of the aboveAnswer: (d)4. Retained earnings and accrued wages arise from a firms operations. Another name for these sources of funds is _.(a) internal financing(b) external financing(c) preferred financing(d) investment financingA
4、nswer: (a)5. If managers of a firm seek funds from outside investors or lenders, this source of funds is referred to as _.(a) internal financing(b) external financing(c) preferred financing(d) investment financingAnswer: (b)6. Operations of the firm include retained earnings, accrued wages, and acco
5、unts payable, whereas the decisions regarding dividend policy or maintaining a line of credit with a bank are examples _.(a) investment policy(b) operations policy(c) financing policy(d) external policyAnswer: (c)7. _ subjects the corporations plans more directly to the discipline of the capital mar
6、ket than _.(a) Investment policy; financing policy(b) Financing policy; investment policy(c) Internal financing; external financing(d) External financing; internal financingAnswer: (d)8. Common stock, _, and preferred stock are examples of equity claims.(a) mortgage debentures(b) stock options(c) ju
7、nk bonds(d) residual claimsAnswer: (b)9. When a corporation pledges a particular asset as security, this promised asset is referred to as _.(a) leased asset(b) pension liability(c) collateral(d) leverageAnswer: (c)10. Regarding a long-term lease, it is the _ who bears the residual value risk.(a) les
8、sor(b) lessee(c) investment bank(d) underwriterAnswer: (a)11. When a corporation establishes a separate pension trust with a pool of assets sufficient to pay the promised benefits, this is referred to as _.(a) the unfunded pension plan(b) the defined contribution plan(c) funding the pension plan(d)
9、defining the pension planAnswer: (c)12. Compass Corporation and North Corporation are virtually identical companies. The one difference between these two corporations is that Compass leases most of its plant and equipment whereas North buys its plant and equipment and finances it by borrowing. The l
10、iabilities and shareholders equity side of the Compass market-value balance sheets will be comprised of _.(a) plant, equipment and bonds(b) plant, equipment and equity(c) bonds and equity(d) leases and equityAnswer: (d)13. Compass Corporation and North Corporation are virtually identical companies.
11、The one difference between them is that Compass has a completely unfunded pension plan and North has a fully funded pension plan. The assets side of the North market-value balance sheet will comprise _.(a) operating assets, bonds, pension liability(b) operating assets, pension assets(c) operating as
12、sets, pension liabilities(d) pension liability, shareholders equityAnswer: (b)14. Consider a corporation called Freedett that issues only stocks. Currently, Freedett has total earnings of $60 million per year and it pays out all these earnings in the form of dividends to the shareholders of Freedett
13、. Currently there are 6 million shares of Freedett outstanding. The market capitalization rate on these expected dividends is 11% per year. Calculate the total value of Freedett Corporation in the “frictionless” world of Modigliani and Miller.(a) $6 million(b) $54.5 million(c) $545.5 million(d) $660
14、 millionAnswer: (c)15. The effect of increasing financial leverage is to increase the _.(a) mean EPS(b) risk of EPS(c) return of EPS(d) both a and bAnswer: (d)16. Consider a corporation called Freedett that issues only stocks. Currently, Freedett has total earnings of $60 million per year and it pay
15、s out all these earnings in the form of dividends to the shareholders of Freedett. Currently, there are 6 million shares of Freedett outstanding. The market capitalization rate on these expected dividends is 11% per year. The corporate environment is the “frictionless” world of Modigliani and Miller
16、. Calculate the price per share of Freedett stock.(a) $9.08(b) $90.91(c) $100.91(d) $110.00Answer: (b)17. Consider a corporation, Bit-O-Dett, in a frictionless environment. Currently, Bit-O-Dett is partially debt financed, by having issued bonds with a face value of $50 million at an interest rate o
17、f 9% per year. One will assume that the bonds are “rolled over” as they mature. Bit-O-Dett has total earnings of $70 million per year and 11 million shares outstanding. Calculate the earnings per share for Bit-O-Dett Corporation.(a) $6.36(b) $5.95(c) $5.36(d) $1.82Answer: (b)18. When considering the
18、 choice of capital structure, the firm may be able to reduce potentially costly conflicts of interest among various stakeholders of the firm. Such conflicts could exist between(a) shareholders and creditors(b) managers and shareholders(c) both (a) and (b)(d) neither (a) nor (b)Answer: (c)19. A gover
19、nment body offering to guarantee the debt of a firm that invests in an economically depressed area is an example of:(a) tax abatement(b) a subsidy(c) an incentive problem(d) equity financingAnswer: (b)20. The management of Godzilla Inc. is trying to choose an appropriate capital structure, in partic
20、ular how much debt they should hold. If the firm sells 5 million in perpetual bonds with a coupon rate of 8%, what is the present value of Godzilla Inc.s interest tax shield, if the tax rate is 34%?(a) $136,000(b) $1.30 million(c) $1.57 million(d) $1.70 millionAnswer: (d)21. The capital structure of
21、 Quokku Corporation consists of $200 million of debt and $320 million of equity. The return on equity is 15%, the interest rate on debt is 9% and the tax rate is 34%. Calculate the present value of the interest tax shield for Quokku Corporation.(a) $40.8 million(b) $50 million(c) $68 million(d) $108
22、.8 millionAnswer: (c)22. Financial distress costs that can reduce a firms total value include:(a) legal fees(b) lost business(c) managerial time spent associated with trying to avoid bankruptcy(d) all of the aboveAnswer: (d)23. Issuing debt to repurchase shares is one way of creating value for the s
23、hareholders by reducing the amount of _ available to managers.(a) free cash flow(b) interest(c) dividends(d) stock optionsAnswer: (a)24. Creditors face a potential _ when they lend to certain firms, such as those with large amounts of debt. Managers of such firms may be tempted to redeploy assets so
24、 as to increase the wealth of the shareholders at the expense of the debtholders.(a) agency hazard(b) interest hazard(c) moral hazard(d) deployment hazardAnswer: (c)25. _ is a form of financing appropriate when a business is starting out as a small enterprise and its future prospects are very uncert
25、ain.(a) Debt with warrants(b) Leasing arrangement(c) Loans from friends or relatives(d) Common stock repurchaseAnswer: (c)26. _ is typically used either when the firm goes public for the first time, or when it wants to undertake a major expansion.(a) Factoring receivables(b) A common stock issuance(
26、c) A leasing arrangement(d) A loan from friends or relativesAnswer: (b)27. _ is a form of financing that raises cash by selling a company asset rather than by borrowing or issuing new equity.(a) Factoring receivables(b) Common stock issuance(c) A loan from friends or relatives(d) A leasing arrangeme
27、ntAnswer: (a)28. _ is essentially debt financing secured by a leased asset.(a) Factoring receivables(b) Common stock issuance(c) A loan from friends or relatives(d) A leasing arrangementAnswer: (d)29. Warrants are _ options giving their owners the right to buy shares of the issuing companys stock at
28、 a fixed price.(a) put(b) call (c) currency(d) futuresAnswer: (b)30. When a company envisions a need for raising new equity capital some time before the debt has to be repaid, this is a form of financing known as _.(a) factoring receivables(b) leasing arrangement(c) common stock issuance(d) debt wit
29、h warrantsAnswer: (d)31. Debt forces management to distribute cash to the firms debtholders in the form of _ and _.(a) voting power; dividends(b) dividends; prescheduled interest payments(c) principle; dividends(d) principle; prescheduled interest paymentsAnswer: (d)32. There are three alternative m
30、ethods used in estimating the _ of an investment project to take into account _.(a) future value; pure equity financing(b) future value; financial leverage(c) net present value; financial leverage(d) net present value; pure equity financingAnswer: (c)33. The _ is a weighted average of the cost of eq
31、uity and the after tax cost of debt.(a) APV(b) FTE(c) WACC(d) Unlevered NPV Answer: (c)34. The NPV computed using the incremental expected after tax cash flow to the firms shareholders and cost of equity capital is known as _(a) Adjusted Present Value Method(b) Flows to Equity Method(c) Weighted Ave
32、rage Cost of Capital(d) Unlevered NPV MethodAnswer: (b)35. Under the _ the value that is created through debt financing is added to the projects unlevered NPV.(a) Adjusted Present Value Method(b) Flows to Equity Method(c) Weighted Average Cost of Capital(d) Unlevered NPV MethodAnswer: (a)Short Probl
33、ems1. Briefly describe the main features of each of the following kinds of corporate debt: secured debt, long-term leases, and pension liabilities.Answer:Secured debt: The corporation pledges a particular asset as security for that promise. The asset pledged as security is called collateral and the
34、debt is called secured. The secured lender gets first priority on those assets in the event of a nonpayment.Long-term leases: This is similar to buying the asset and financing the purchase with debt secured by the leased asset The lessor bears the residual-value risk.Pension liabilities: Classified
35、into two types defined contribution and defined benefit. In a defined contribution plan each employee has an account into which the employer and usually the employee make regular contributions. In a defined benefit plan the employees pension benefit is determined by a formula that takes into account
36、 years of service for the employer and wages and salary. Pension funding practices differ across countries. The establishment of a separate pension trust with a pool of assets sufficient to pay the promised benefits is called “funding the pension plan.”2. How may the firm perform the functions of in
37、termediary in its choice of capital structure?Answer: The firm may be able to provide stakeholders with financial assets not otherwise available to them. The firm, therefore, expands the opportunity set of financial instruments available and earns a premium for doing so. To the extent that the firm
38、engages in this activity, it is performing the functions of a financial intermediary.3. Consider a corporation, Rheingold Corp., in a frictionless environment. Currently, Rheingold is partially debt financed by having issued bonds with a face value of $60 million at an interest rate of 9% per year.
39、One will assume that the bonds are “rolled over” as they mature. Rheingold Corporation has total earnings of $80 million per year and 10 million shares outstanding. Calculate the earnings per share for Rheingold Corporation.Answer:EPS = Net earnings Number of shares outstanding = EBIT Interest payme
40、nts Number of shares outstanding EPS = $80,000,000 0.09(60,000,000) 10,000,000 EPS = $80,000,000 5,400,000 10,000,000 EPS = $7.464. How does issuing debt help deal with the incentive problem created by free cash flow?Answer:Debt forces management to distribute cash to the firms debtholders in the fo
41、rm of prescheduled payments of interest and principle. Otherwise, when managers have a lot of discretion about how to allocate a firms cash flow they may be tempted to invest in projects that increase their own power, prestige or perks, but do not increase shareholder wealth. Issuing debt to repurch
42、ase shares can therefore, be a way of creating value for the shareholders by reducing the amount of free cash flow available to managers.5. Skippy Corporation has decided to issue $40 million of bonds and to repurchase 400,000 shares of its stock. What will be the impact on the price of its shares a
43、nd on shareholder wealth? If EBIT is $20 million, and there are no taxes, which case has the higher EPS all equity or the partial debt financing case? Assume Skippy has 2 million shares outstanding. Assume interest on debt is 7%, and also in an all equity case, 1.6 million shares with bonds are issu
44、ed.Answer:In a frictionless world, the wealth of shareholders is the same regardless of capital structure, and stock price would not be affected either. In a world with taxes, etc., the management might be able to create shareholder wealth by issuing debt and repurchasing shares by reducing tax cost
45、s and reducing free cash flow available to management.All equity:EBIT = $20 millionEPS = $20 million/2 million = $10 per shareWith $40 million of debt:Net earnings = $20,000,000 (0.07 x 40,000,000) = $17.2 millionEPS = $17.2 million/1.6 million = $10.75 per share6. Provide details on the financing m
46、ethod known as factoring receivables.Answer:Factoring is raising cash by selling a company asset rather than by borrowing or issuing new equity. A factor is a firm that specializes in investing in receivables and usually receives the accounts receivable at a discount.7. Provide brief details on the
47、common stock issuance financing method.Answer:Common stock issuance is appropriate when the firm goes public for the first time, or when it wants to undertake a major expansion. It is also a method of financing used when the firm is organized as a corporation. It is also considered a useful approach
48、 when the agency costs associated with debt financing may be too high.8. Provide brief details on the debt with warrants financing method.Answer:Warrants are call options giving their owners the right to buy shares of the issuing companys stock at a fixed price. In this instance, warrants are attach
49、ed to a debt issue when the company envisions a need for raising new equity capital some time before the debt is to be repaid. The debt bears a lower interest rate than it would if it had no warrants attached.9. Provide brief details on the financing method known as leasing arrangement.Answer:Leasin
50、g is essentially debt financing secured by a leased asset. In a leasing arrangement, the lessor provides some real asset an office or equipment, etc. to the lessee in return for contractually fixed payments over a set period of time. It is appropriate if there is no more debt capacity for the firm.1
51、0. Provide brief details on when a loan from friends or relatives might be appropriate as a financing method.Answer:This method is appropriate when a business is starting out as a small enterprise, and its future prospects are very uncertain. Only those who know the owners of the firm and trust them
52、 would provide capital to the firm.11. Consider the following scenario. Dougs Independent Films is a small movie production company that has 12 owners, and the owners want to double the number of new movies the company produces. The production company has recently attracted widespread acclaim for it
53、s film “Driving Miss Spider.” The company recently incorporated, and now wants to raise $20 million from outside investors. How should Dougs Independent Films approach its financing?Answer:Dougs Independent Films should look at issuing common stock as a method of financing. Appropriate when a firm i
54、s organized as a corporation, common stock issuance is typically used when a firm wants to undertake a major expansion. If the firm were to undertake debt financing, the agency costs would be very high.12. Consider the following scenario. Tamaras Tempeh Emporium, Inc. is a chain of vegetarian food s
55、tores owned by three siblings, each of whom holds equal amounts of outstanding stock. The firm has $20 million in total assets, and the company needs an additional $5 million to purchase equipment to improve its transportation network throughout the Northeastern U.S. The company has proved to be very profitable and has grown at an extremely rapid pace, to such an extent that the companys real estate is heavily mortgaged and its accounts receivables are being factored. How should Tamaras Tempeh Emporium obtain its financing?Answer:This company should und
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