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Peterboro recently defaulted on a bank loan.To avoid a bankruptcy proceeding,the bank agreed to a composition.This composition would do which one of the following?


A) Forgive the loan payment in its entirety
B) Extend the due date on the missed loan payment
C) Reduce the amount of the loan payments so Peterboro can pay on time
D) Transfer some of Peterboro's assets to the bank in lieu of the loan payment
E) Transfer all the equity shares in Peterboro to the lending bank

F) A) and B)
G) C) and D)

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Newborn Nursery has 8,000 bonds outstanding with a face value of $1,000 each.The coupon rate is 6.5 percent and the tax rate is 40 percent.What is the present value of the interest tax shield?


A) $2.82 million
B) $2.83 million
C) $3.09 million
D) $3.13 million
E) $3.20 million

F) A) and B)
G) C) and D)

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Chick 'N Fish is considering two different capital structures.The first option consists of 25,000 shares of stock.The second option consists of 15,000 shares of stock plus $150,000 of debt at an interest rate of 7.5 percent.Ignore taxes.What is the break-even level of earnings before interest and taxes (EBIT) between these two options?


A) $2,813
B) $3,134
C) $16,410
D) $28,125
E) $31,338

F) B) and C)
G) A) and D)

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Bruno's is considering a change from its current capital structure.Bruno's currently has an all-equity capital structure and is considering a capital structure with 30 percent debt.There are currently 6,500 shares outstanding at a price per share of $46.EBIT is expected to remain constant at $43,000.The interest rate on new debt is 8.5 percent and there are no taxes.Tracie owns $20,700 worth of stock in the company.The firm has a 100 percent payout.What would Tracie's cash flow be under the new capital structure assuming that she keeps all of her shares?


A) $1,998
B) $2,227
C) $2,815
D) $3,027
E) $3,499

F) A) and E)
G) A) and B)

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Debbie's Cookies has a return on assets of 15.3 percent and a cost of equity of 16.9 percent.What is the pretax cost of debt if the debt-equity ratio is 0.54? Ignore taxes.


A) 8.87 percent
B) 9.29 percent
C) 9.64 percent
D) 11.31 percent
E) 12.33 percent

F) A) and D)
G) A) and E)

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The Park Place has a return on assets of 13.7 percent,a cost of equity of 20 percent,and a pretax cost of debt of 7.1 percent.What is the debt-equity ratio? Ignore taxes.


A) 0.44
B) 0.47
C) 0.61
D) 0.88
E) 0.95

F) A) and B)
G) B) and D)

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Explain why the capital structure of a firm is irrelevant to equity investors.

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Shareholders can adjust the amount of fi...

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The use of borrowing by an individual to adjust his or her overall exposure to financial leverage is referred to as:


A) M&M Proposition I.
B) capital restructuring.
C) homemade leverage.
D) M&M Proposition II.
E) financial risk management.

F) A) and B)
G) A) and C)

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Which one of the following is correct based on the static theory of capital structure?


A) A firm receives the greatest benefit from debt financing when its tax rate is relatively low.
B) A debt-equity ratio of 1 is considered to be the optimal capital structure.
C) The costs of financial distress decrease the value of a firm.
D) The more debt a firm assumes, the greater the incentive to acquire even more debt until such time as the firm is financed with 100 percent debt.
E) At the optimal level of debt a firm also optimizes its tax shield on debt.

F) A) and B)
G) A) and C)

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In the process of liquidation,some types of claims receive preference over other claims.Which one of the following determines which type of claim is paid first?


A) Technical insolvency definition
B) Absolute priority rule
C) Accounting insolvency definition
D) Chapter 7 of the Federal Bankruptcy Reform Act of 1978
E) Securities and Exchange Commission

F) C) and D)
G) C) and E)

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Which one of the following is an example of a direct bankruptcy cost?


A) Operating at a debt-equity ratio that is less than the optimal ratio
B) Reducing the dividend payout ratio as a means of increasing a firm's equity
C) Forgoing a positive net present value project to conserve current cash
D) Incurring legal fees for the preparation of bankruptcy filings
E) Losing a key customer due to concerns over a firm's financial viability

F) B) and C)
G) A) and D)

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The Piano Movers can borrow at 7.5 percent.The firm currently has no debt,and the cost of equity is 16 percent.The current value of the firm is $540,000.What will the value be if the firm borrows $160,000 and uses the proceeds to repurchase shares? The corporate tax rate is 40 percent.


A) $528,000
B) $540,000
C) $552,000
D) $571,000
E) $604,000

F) C) and E)
G) A) and B)

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Roller Coaster's has a cost of equity of 15.4 percent,a return on assets of 11.3 percent,and a cost of debt of 7.3 percent.There are no taxes.What is the firm's weighted average cost of capital?


A) 7.30 percent
B) 11.20 percent
C) 12.97 percent
D) 15.40 percent
E) Cannot be determined from the information provided.

F) A) and B)
G) None of the above

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Paying interest reduces the taxes owed by a firm.Which one of the following terms applies to this relationship?


A) Static theory of interest rates
B) M&M Proposition I
C) Financial risk
D) Interest tax shield
E) Homemade leverage

F) A) and B)
G) A) and C)

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The Greenbriar is an all-equity firm with a total market value of $520,000 and 20,000 shares of stock outstanding.Management is considering issuing $120,000 of debt at an interest rate of 10 percent and using the proceeds on a stock repurchase.Ignore taxes.How many shares will the firm repurchase if it issues the debt securities?


A) 2,871 shares
B) 3,516 shares
C) 4,521 shares
D) 4,607 shares
E) 4,615 shares

F) B) and C)
G) C) and D)

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Glass Growers has no debt.Its cost of capital is 8.7 percent.Suppose the firm converts to a debt-equity ratio of 0.65.The interest rate on the debt is 6.9 percent.What is its new WACC?


A) 7.99 percent
B) 8.13 percent
C) 8.36 percent
D) 8.44 percent
E) 8.61 percent

F) A) and D)
G) B) and D)

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Assume you are comparing two firms that are identical in every aspect,except one is levered and one is unlevered.Which one of the following statements is correct regarding these two firms?


A) The levered firm has higher EPS (earnings per share) than the unlevered firm at the break-even point.
B) The levered firm will have higher EPS than the unlevered firm at all levels of EBIT.
C) The unlevered firm will have higher EPS than the levered firm at relatively high levels of EBIT.
D) The EPS for the unlevered firm will always exceed those of the levered firm.
E) The unlevered firm will have higher EPS at relatively low levels of EBIT.

F) A) and D)
G) A) and C)

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Northwestern Lumber Products currently has 15,000 shares of stock outstanding.Patricia,the financial manager,is considering issuing $120,000 of debt at an interest rate of 6.75 percent.Given this,how many shares of stock will be outstanding once the debt is issued if the break-even level of EBIT between these two capital structure options is $60,000? Ignore taxes.


A) 12,975 shares
B) 13,650 shares
C) 14,025 shares
D) 14,550 shares
E) 15,000 shares

F) B) and C)
G) A) and C)

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Green Tea House has a 35 percent tax rate and an interest tax shield valued at $6,728 for the year.How much did the firm pay in annual interest?


A) $2,153
B) $2,304
C) $2,468
D) $19,107
E) $19,223

F) B) and E)
G) All of the above

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Triangle Enterprises has no debt but can borrow at 9 percent.The firm's WACC is currently 14.7 percent,and there is no corporate tax.If the firm converts to 70 percent debt,what will its cost of equity be?


A) 20.67 percent
B) 22.95 percent
C) 24.47 percent
D) 26.39 percent
E) 28.00 percent

F) C) and E)
G) A) and B)

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