Question 1

Find the debt-to-equity ratio for a firm with a debt-to-total-value ratio of 5/6.

Accepted Answer

The answer of Find the debt-to-equity ratio for a firm...

Question 2

The cost of equity capital is

Accepted Answer

The cost of equity capital is the expected return on the firm's stock that investors require. It is often estimated by using the Capital Asset Pricing Model (CAPM) and is generally considered to be a linear function of the systematic risk inherent in the security. Therefore, all of the given options are correct.

Question 3

Compute the debt-to-total-value ratio for a firm that has a debt-to-equity ratio of 2.

Accepted Answer

The debt-to-total-value ratio is the ratio of total debt to the total value of the firm, which includes both debt and equity.

If the debt-to-equity ratio is 2, it means that the total amount of debt is twice the amount of equity.

Therefore, the total value of the firm is equal to the sum of debt and equity, which can be represented as:

Total value = Debt + Equity

Since the debt is twice the equity, we can substitute 2E for D:

Total value = 2E + E

Total value = 3E

Now, we can calculate the debt-to-total-value ratio:

Debt-to-total-value ratio = Debt / Total value

Debt-to-total-value ratio = 2E / 3E

Debt-to-total-value ratio = 2/3

Therefore, the answer is D: 2/3.

Question 4

Find the debt-to-equity ratio for a firm with a debt-to-total-value ratio of 4/5.

Accepted Answer

The debt-to-total-value ratio is 4/5, meaning debt is 4 parts and equity is 1 part (since total value is 5 parts). The debt-to-equity ratio is debt divided by equity, which is 4/1 = 4.

Question 5

A reduced cost of equity capital increases the firm's value

Accepted Answer

When the cost of equity capital decreases, the discount rate used to evaluate the firm's future cash flows also decreases. As a result, the net present value (NPV) of existing projects increases, leading to higher valuations for the firm. Additionally, a lower cost of equity capital means that new projects with positive NPVs can be pursued with a higher likelihood of success, further increasing the firm's value. Therefore, both options (A and B) are correct in explaining how a reduced cost of equity capital increases the firm's value.

Question 6

Corporations are becoming multinational not only in the scope of their business activities but also in their capital structure(.)

Accepted Answer

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Question 7

A value-maximizing firm would

Accepted Answer

A value-maximizing firm would undertake an investment project as long as the IRR exceeds the cost of capital. This is because the IRR represents the rate of return that the firm can expect to earn from the investment project, while the cost of capital represents the minimum required rate of return that the firm must earn in order to compensate its investors for the use of their capital. By choosing investment projects with IRRs that exceed the cost of capital, the firm can ensure that the project generates positive net present value (NPV) and thus increase the overall value of the firm.

Question 8

Systematic risk refers to

Accepted Answer

Systematic risk refers to nondiversifiable (market) risk of an asset which comprises of factors that affect the entire market such as changes in interest rates, inflation or geopolitical events. It cannot be eliminated through diversification and affects the overall market returns.

Question 9

The firm's tax rate is 34 percent.The firm's pre-tax cost of debt is 8 percent; the firm's debt-to-equity ratio is 4; the risk-free rate is 3 percent; the beta of the firm's common stock is 1.5; the market risk premium is 9 percent.What is the firm's cost of equity capital?

Accepted Answer

The cost of equity is calculated using the Capital Asset Pricing Model (CAPM): Cost of Equity = Risk-Free Rate + Beta * Market Risk Premium = 3% + 1.5 * 9% = 16.50%.

Question 10

Find the debt-to-equity ratio for a firm with a debt-to-total-value ratio of 2/3.

Accepted Answer

The debt-to-equity ratio is calculated as (Debt/Equity). Given the debt-to-total-value ratio is 2/3, it implies Debt/Total Value = 2/3. Therefore, Equity/Total Value = 1 - 2/3 = 1/3. The debt-to-equity ratio is (Debt/Equity) = (2/3) / (1/3) = 2.

Question 11

Find the weighted average cost of capital for a firm that has a debt-to-equity ratio of 2,a tax rate of 40 percent,a levered cost of equity of 12 percent and an after-tax cost of debt of 9 percent.

Accepted Answer

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Question 12

The common stock of Kansas City Power and Light has a beta of 0.80.The Treasury bill rate is 4 percent and the market risk premium is 8 percent.What is their cost of equity capital?

Accepted Answer

The cost of equity capital can be calculated using the Capital Asset Pricing Model (CAPM), which is: 
Cost of Equity = Risk-Free Rate + Beta*(Market Risk Premium)
Substituting the given values: 
Cost of Equity = 4% + 0.80*(8%) 
Cost of Equity = 10.4%
Therefore, the correct answer is B) 10.4 percent.

Question 13

Compute the debt-to-equity ratio for a firm that has a debt-to-value ratio of 60 percent.

Accepted Answer

The debt-to-equity ratio is calculated as Debt/Equity. If the debt-to-value ratio is 60%, then equity-to-value ratio is 40%. Therefore, Debt/Equity = 60/40 = 3/2.

Question 14

Micro Spinoffs,Inc.,issued 20-year debt one year ago today at par value with a coupon rate of 9 percent,paid annually.Today,the debt is selling at $1,050.If the firm's tax rate is 34 percent,what is its after-tax cost of debt?

Accepted Answer

The after-tax cost of debt is the cost of debt to the firm after taking into account the tax savings from the interest payments. The formula for the after-tax cost of debt is:After-tax cost of debt = Cost of debt * (1 - Tax rate)In this case, the cost of debt is 9 percent and the tax rate is 34 percent. Therefore, the after-tax cost of debt is:After-tax cost of debt = 9% * (1 - 34%) = 5.94%Therefore, the correct answer is D) 5.94 percent.

Question 15

Find the weighted average cost of capital for a firm that has a debt-to-equity ratio of 2,a tax rate of 40 percent,a levered cost of equity of 12 percent and a pre-tax cost of debt of 9 percent.

Accepted Answer

The answer of Find the weighted average cost of capital...

Question 16

Find the weighted average cost of capital for a firm that has a debt-to-equity ratio of 1½,a tax rate of 34 percent,a levered cost of equity of 12 percent and an after-tax cost of debt of 8 percent.

Accepted Answer

The WACC is calculated as: WACC = (E/V) * Re + (D/V) * Rd * (1-Tc), where E is equity, D is debt, V is total value (E+D), Re is cost of equity, Rd is cost of debt, and Tc is tax rate. With a debt-to-equity ratio of 1.5, D/E = 1.5, so D = 1.5E. V = E + D = E + 1.5E = 2.5E. Thus, E/V = 1/2.5 = 0.4 and D/V = 1.5/2.5 = 0.6. Plugging in the values: WACC = 0.4 * 12% + 0.6 * 8% * (1-0.34) = 4.8% + 3.168% = 7.968%.

Question 17

Find the debt-to-equity ratio for a firm with a debt-to-total-value ratio of 3/4

Accepted Answer

The debt-to-equity ratio is calculated as (Debt/Equity). Given the debt-to-total-value ratio is 3/4, it means Debt = 3 and Total Value = 4. Therefore, Equity = Total Value - Debt = 4 - 3 = 1. Thus, Debt/Equity = 3/1 = 3.

Question 18

Using the notation of the text,the CAPM states

Accepted Answer

This is the standard equation for the Capital Asset Pricing Model (CAPM), which states that the expected return for an individual asset (i) is equal to the risk-free rate (Rf) plus the beta (βi) of the asset multiplied by the market risk premium (Rm - Rf). This equation assumes no taxes (τ) or other market imperfections, which is a simplifying assumption in the basic CAPM. Choice A includes the tax adjustment factor (1 - τ), which is not part of the basic CAPM equation. Choice B includes a risk aversion parameter (λ), which is part of the consumption-based CAPM but not the standard CAPM.

Question 19

Find the weighted average cost of capital for a firm that has a debt-to-equity ratio of 1½,a tax rate of 34 percent,a levered cost of equity of 12 percent and a pre-tax cost of debt of 10 percent.

Accepted Answer

WACC = (E/V)*Ke + (D/V)*Kd*(1-T)
where, 
E = market value of equity
D = market value of debt
V = E + D
Ke = cost of equity
Kd = cost of debt
T = tax rate

Given, 
debt-to-equity ratio = 1.5
Let's assume, 
market value of equity = $100
market value of debt = 1.5*$100 = $150
V = $100 + $150 = $250
tax rate = 34%
Ke = 12%
Kd = 10%

WACC = (100/250)*12% + (150/250)*10%*(1-34%)
= 8.76%

Therefore, the weighted average cost of capital for the firm is 8.76%. The correct option is C.

Question 20

The market risk premium

Accepted Answer

The answer of The market risk premium
...

Quiz 17: International Capital Structure and the Cost of Capital