Question 1

Which of the following is not considered a capital component?

Accepted Answer

All the options listed (long-term debt, common stock, permanent short-term debt, and preferred stock) are considered capital components in a company's capital structure.

Question 2

A company has a capital structure which consists of 50 percent debt and 50 percent equity. Which of the following statements is most correct?

Accepted Answer

Generally, the cost of equity financing is higher than the cost of debt financing due to equity investors wanting a higher return to compensate for the higher risk. Therefore, the cost of equity financing is either greater than or equal to the cost of debt financing.

Question 3

Which of the following statements is most correct?

Accepted Answer

The answer of Which of the following statements is most...

Question 4

Which of the following is not considered a capital component for the purpose of calculating the weighted average cost of capital as it applies to capital budgeting?

Accepted Answer

Accounts payable is not considered a capital component for the purpose of calculating the weighted average cost of capital as it applies to capital budgeting. This is because accounts payable represents short-term debt owed to suppliers and is not a permanent source of financing. The other options (long-term debt, common stock, and preferred stock) are all considered capital components for WACC and capital budgeting purposes.

Question 5

Which of the following statements is most correct?

Accepted Answer

The answer of Which of the following statements is most...

Question 6

Which of the following statements is most correct?

Accepted Answer

The answer of Which of the following statements is most...

Question 7

Which of the following statements is most correct?

Accepted Answer

A) The CAPM approach can sometimes provide a better estimate than the DCF approach, depending on the availability and reliability of the data.
B) The CAPM approach is used to estimate the cost of common stock, not preferred stock.
C) The bond-yield-plus-risk-premium method uses a different risk premium than the CAPM method.
D) In practice, the DCF method and the CAPM method can produce different estimates for rs due to different assumptions and inputs used. Therefore, it is important to use multiple methods to triangulate a firm's cost of common stock.

Question 8

Which of the following statements is most correct?

Accepted Answer

The before-tax cost of preferred stock can be lower than the before-tax cost of debt because preferred dividends are not tax-deductible, whereas interest on debt is. However, preferred stock is generally riskier than debt because it has a lower claim on assets in the event of liquidation.

Question 9

In applying the CAPM to estimate the cost of equity capital, which of the following elements is not subject to dispute or controversy?

Accepted Answer

All elements listed are subject to dispute or controversy due to varying assumptions, estimations, and market conditions.

Question 10

Which of the following statements is most correct?

Accepted Answer

The WACC (Weighted Average Cost of Capital) measures the marginal after-tax cost of capital, reflecting the average rate a company expects to pay to finance its assets, considering the tax shield on debt.

Question 11

Which of the following statements is most correct?

Accepted Answer

The CAPM approach assumes that stockholders are well diversified, meaning that beta may not accurately reflect the true risk of a firm's investment. This can lead to incorrect cost of equity capital estimates. Choices A, B, D, and E are all incorrect statements.

Question 12

Firms should use their weighted average cost of capital (WACC) when they are funding their capital projects with a variety of sources. However, when the firm plans on using only debt or only equity to fund a particular project, it should use the after-tax cost of the specific source of capital to evaluate that project.

Accepted Answer

The answer of Firms should use their weighted average cost...

Question 13

For a typical firm with a given capital structure, which of the following is correct? (Note: All rates are after taxes.)

Accepted Answer

The cost of equity (rs) is typically higher than the WACC, which is a weighted average of the cost of equity and the cost of debt (rd). The cost of debt is usually the lowest because it is tax-deductible.

Question 14

The lower the firm's tax rate, the lower will be the firm's after-tax cost of debt and WACC, other things held constant.

Accepted Answer

The answer of The lower the firm's tax rate, the...

Question 15

Which of the following statements is most correct?

Accepted Answer

An increase in the company's tax rate will reduce the after-tax cost of debt, as interest is tax-deductible, thus lowering the marginal cost of debt capital.

Question 16

Wyden Brothers uses the CAPM to calculate the cost of equity capital. The company's capital structure consists of common stock, preferred stock, and debt. Which of the following events will reduce the company's WACC?

Accepted Answer

The WACC is calculated as a weighted average of the cost of equity, preferred stock, and debt, and is influenced by the risk-free rate, market risk premium, beta, and tax rate. A reduction in the market risk premium reduces the cost of equity, which in turn reduces the WACC. An increase in the risk-free rate, an increase in the company's beta, an increase in expected inflation, and an increase in flotation costs associated with issuing preferred stock all increase the cost of equity, preferred stock, or debt, which increases the WACC.

Question 17

Which of the following statements is most correct?

Accepted Answer

Preferred stock dividends are not tax-deductible, historical costs are not ideal for WACC, and a decline in market risk premium and risk-free rate would decrease the cost of common stock.

Question 18

Which of the following statements is most correct?

Accepted Answer

Option A accurately describes the calculation of weighted average cost of capital (WACC) as it takes into account the marginal cost of each relevant capital component. Option B is incorrect as WACC is calculated on an after-tax basis. Option C is true, as an increase in the risk-free rate leads to an increase in the cost of debt, and as a result, the marginal cost of equity also increases due to the higher required return of investors. Option E is incorrect as option B is incorrect. Therefore, the correct option is D, as options A and C are both correct.

Question 19

Which of the following statements is most correct?

Accepted Answer

Beta measures market risk, but it assumes that a stockholder is well diversified. If a stockholder is not well diversified, the stockholder is exposed to additional stand-alone risk that is not captured by beta. Therefore, beta may not accurately measure stand-alone risk. The other statements are false. The CAPM method will underestimate rs if the calculated beta underestimates the firm's true investment risk. The growth component, g, does not need to be constant for the discounted cash flow method to be used. Neither the DCF nor the CAPM method yield precise estimates without any judgement.

Question 20

Which of the following is not considered a capital component for the purpose of calculating the weighted average cost of capital as it applies to capital budgeting?

Accepted Answer

Short-term debt used to finance seasonal current assets is not considered a capital component for the purpose of calculating the weighted average cost of capital as it applies to capital budgeting. The capital components considered for WACC and capital budgeting purposes are long-term debt, common stock, preferred stock, and retained earnings.

Quiz 10: Determining the Cost of Capital

Which of the following is not considered a capital component?

A company has a capital structure which consists of 50 percent debt and 50 percent equity. Which of the following statements is most correct?

Which of the following statements is most correct?

Which of the following is not considered a capital component for the purpose of calculating the weighted average cost of capital as it applies to capital budgeting?

Which of the following statements is most correct?

Which of the following statements is most correct?

Which of the following statements is most correct?

Which of the following statements is most correct?

In applying the CAPM to estimate the cost of equity capital, which of the following elements is not subject to dispute or controversy?

Which of the following statements is most correct?

Which of the following statements is most correct?

For a typical firm with a given capital structure, which of the following is correct? (Note: All rates are after taxes.)

The lower the firm's tax rate, the lower will be the firm's after-tax cost of debt and WACC, other things held constant.

Which of the following statements is most correct?

Wyden Brothers uses the CAPM to calculate the cost of equity capital. The company's capital structure consists of common stock, preferred stock, and debt. Which of the following events will reduce the company's WACC?

Which of the following statements is most correct?

Which of the following statements is most correct?

Which of the following statements is most correct?

Which of the following is not considered a capital component for the purpose of calculating the weighted average cost of capital as it applies to capital budgeting?