Charles Darwin University

ACCOUNTING

Week 10 Quiz 1

1)Millers drugstore has an EBIT of $15,000, debt with a market value of $25,000 and a required return on assets of 12%.  Assuming a corporate tax rate of 35%, what is Miller's Drugstore's value?

a.  $125,000

b.  $25,000

c.  $133,750

d.  $90,000

 

2. XYZ Ltd, an unlevered firm, has a perpetual EBIT of $500,000. The required return on assets for the firm's assets is 10%. The company has 250,000 shares outstanding, trading at $20 per share. The company is considering raising $1 million in debt with a required return of 6% and would use the proceeds to repurchase 50,000 shares of outstanding stock. What are XYZ Ltd's earnings per share after the restructuring? Assume corporate taxes of 34%.

a.  $1.32

b.  $1.35

c.  $1.42

d.  $1.45

 

3. Bavarian Brew, an unlevered firm, has an expected EBIT of $500,000. The required return on assets for the firm's assets is 10%. The company has  250,000  shares outstanding. The company is considering raising $1 million in debt with a required return of 6% and would use the proceeds to repurchase outstanding stock. What is Bavarian Brew's required return on equity before the restructuring. Assume  no corporate taxes.

a.  10%

2. 6%
3. 1%

d.  12%

4. Miller's drugstore has an EBIT of $15,000, debt with a market value of $25,000 and a required return on assets of 12%. Assuming no taxes, what is Miller's Drugstore's value? a. $15,000

b.  $125,000

c.  $25,000

d.  $75,000

 

5. Perfect capital markets describe markets without frictions such as
   1. taxes.
   2. trading costs.
   3. problems            transferring            information between managers and investors.
   4. All of the above.

 

6. If a firm increases its use of financial leverage, then what would we generally expect for the shareholders of that firm to
   1. lower their demand for return on their investment.
   2. remain indifferent with respect to their return on investment.
   3. increase their demand for return on their investment.
   4. it is not possible to tell what will happen.

 

 

7. Which of the following is considered an indirect cost of bankruptcy?
   1. document printing expenses
   2. professional fees paid to lawyers
   3. loss of key employees
   4. none of the above

 

8. Bavarian Brew, an unlevered firm, has an expected EBIT of $500,000. The required return on assets for the firm's assets is 10%. The company has  250,000  shares outstanding. The company is considering raising $1 million in debt with a required return of 6% and would use the proceeds to repurchase outstanding stock. What is the value of Bavarian Brew after the restructuring, if the PV of bankruptcy cost is

$750,000? Assume a corporate tax rate of 34%.

a.   $5,000,000

b.   $5,340,000

c.   $4,590,000

d.   $2,890,000

 

9. If a firm increases its use of financial leverage, then what would we generally expect for the effect of that increased leverage to have on the dispersion of the firm's Net Income distribution?
   1. less dispersion
   2. no effect on dispersion

 

1. 3. greater dispersion
   4. there     is     not     enough      information      to determine

 

10. Bavarian Brew, an unlevered firm, has an expected EBIT of $500,000. The required return on assets for the firm's assets is 10%. The company has 250,000 shares outstanding. The company is considering raising $1 million in debt with a required return of 6% and would use the proceeds to repurchase outstanding stock. What is the present value of Bavarian Brew's debt tax shield after the restructuring? Assume corporate taxes of 34%.

a.  $340,000

b.  $1,000,000

c.  $660,000

4. $0

 

11. Firm X plans to increase its financial leverage by issuing debt and using the proceeds to repurchase equity. If you assume that the Modigliani and Miller assumptions hold, then the effect of this increasing  financial leverage transaction should
    1. increase the market value of Firm X’s shares.
    2. have no effect on the market value of Firm X’s shares.
    3. decrease the market value of Firm X’s shares.
    4. it is not possible to tell what will happen.

 

12. XYZ Ltd, an unlevered firm, has a perpetual EBIT of $500,000. The required return on assets for the firm's assets is 10%. The company has 250,000 shares outstanding, trading at $20 per share. The company is considering raising $1 million in debt with a required return of 6% and would use the proceeds to repurchase 50,000 shares of outstanding stock. Calculate XYZ Ltd's earnings per share after the restructuring. Assume no corporate taxes.

a.  $2.20

b.  $2.50

c.  $2.00

d.  $2.25

 

13. If a company issues $25,000 worth of  debt and has a corporate tax rate of 40%, what is the PV of the debt tax shield?

a.  $25,000

b.  $10,000

c.  $15,000

d.  $20,000

 

14. XYZ Ltd, an unlevered firm, has a perpetual EBIT of $500,000. The required return on

assets for the firm's assets is 10%. The company has 250,000 shares outstanding, trading at $20 per share. The company is considering raising $1 million in debt with a required return of 6% and would use the proceeds to repurchase 50,000 shares of outstanding stock. What are XYZ Ltd's earnings per share before the restructuring Assume corporate taxes of 34%

a.  $1.32

b.  $1.35

c.  $1.42

d.  $1.45

 

15. Which of the following is considered a direct cost of bankruptcy?
    1. diversion of management's time
    2. constrained capital investment spending
    3. lost sales
    4. none of the above

 

16. A situation where shareholders refuse financing a good investment, because they think that only the bondholders will benefit will lead to . . .
    1. asset substitution
    2. underinvestment
    3. overinvestment
    4. none of the above

 

17. If a firm increases its use of financial leverage, then what would we generally expect for the effect of that increased leverage to have on an EPS that is already very low?
    1. EPS      would      be     lower      with      financial leverage
    2. EPS would always be the same with financial leverage
    3. EPS      would     be     higher      with     financial leverage
    4. it is not possible to determine

 

18. Bavarian Brew, an unlevered firm, has an expected EBIT of $500,000. The required return on assets for the firm's assets is 10%. The company has 250,000 shares outstanding. The company is considering raising $1 million in debt with a required return of 6% and would use the proceeds to repurchase outstanding stock. What is the value of Bavarian Brew after restructuring? Assume corporate taxes of 34%.

a.   $5,000,000

b.   $5,340,000

c.   $3,300,000

d.   $1,000,000

 

19. Bavarian Brew, an unlevered firm, has an expected EBIT of $500,000. The required

 

return on assets for the firm's assets is 10%. The company has 250,000 shares outstanding. The company is considering raising $1 million in debt with a required return of 6% and would use the proceeds to repurchase outstanding stock. What is the value of Bavarian Brew before restructuring? Assume a corporate tax rate of 34%.

a.   $5,000,000

b.  $500,000

c.   $3,300,000

d.   $3,640,000

 

20. The uncertainty caused by the variability of a firm's cash flows is called . . .
    1. financial risk
    2. business risk
    3. financial leverage
    4. none of the above

 

21. If a firm increases its financial leverage, then what would we generally expect for  the effect of that increased leverage on EPS to be if the firm's EPS is already quite high?
    1. EPS      would      be     lower      with      financial leverage
    2. EPS would always be the same with financial leverage
    3. EPS      would     be     higher      with     financial leverage
    4. it is not possible to determine

 

22. Bavarian Brew, an unlevered firm, has an expected EBIT of $500,000. The required return on assets for the firm's assets is 10%. The company has 250,000 shares outstanding. The company is considering raising $1 million in debt with a required return of 6% and would use the proceeds to repurchase outstanding stock. What is the value of Bavarian Brew before restructuring? Assume no corporate taxes.

a.  $500,000

b.   $5,000,000

c.   $1,000,000

d.   $3,300,000

 

23. XYZ Ltd, an unlevered firm, has a perpetual EBIT of $500,000. The required return on assets for the firm's assets is 10%. The company has 250,000 shares outstanding, trading at $20 per share. The company is considering raising $1 million in debt with a required return of 6% and would use the proceeds to repurchase 50,000 shares of outstanding stock. What are XYZ Ltd's earnings per share before the restructuring? Assume no corporate taxes.

a.  $2.50

b.  $2.25