Question 1

A general increase in interest rates will raise the required rates of return for all stocks.

Accepted Answer

A) True 
 B)False

Question 2

Although the after tax cost of debt is below the cost of equity, firms cannot increase their use of debt without limit.

Accepted Answer

A) True 
 B)False

Question 3

The after tax cost of debt will usually be below:

Accepted Answer

A)   the cost of dividends.
B)   the weighted average cost of capital less the cost of equity.
C)   the cost of equity.
D)   the floatation cost.

Question 4

The required rate of return for a stock which has 1.5 times the risk of the market in general will be:

Accepted Answer

A)   1.5 times the risk-free rate.
B)   1.5 times the market rate of return.
C)   1.5 times the market risk premium, plus the risk-free rate.
D)   1.5 times the risk-free rate, plus the market risk premium.

Question 5

Although debt financing is usually the cheapest component of capital, it cannot be used to excess because:

Accepted Answer

A)   interest rates may change.
B)   the firm's share price will increase and raise the cost of equity financing.
C)   the financial risk of the firm may increase and thus drive up the cost of all sources of financing.
D)   underwriting costs may change.

Question 6

In the Net Operating Income approach to cost-of-capital analysis, a firm's value depends on:

Accepted Answer

A)   its net operating income.
B)   its use of debt.
C)   size of the firm.
D)   retained earnings as a proportion of debt.

Question 7

The cost of capital is used as a discount rate because:

Accepted Answer

A)   it is an indication of how much the firm is earning overall.
B)   as long as the cost of capital is earned, the common stock value of the firm will be maintained.
C)   it is comparable to the prevailing market interest rates.
D)   returns below the cost of capital will cover all fixed costs associated with capital and provide an excess return to shareholders.

Question 8

The cost of capital for each source of funds is a cost dependent on current market conditions and expected rates of return.

Accepted Answer

A) True 
 B)False

Question 9

An increase in investors' aversion to risk causes the SML to shift up parallel to the old SML.

Accepted Answer

A) True 
 B)False

Question 10

If the flotation cost goes up, the cost of retained earnings will:

Accepted Answer

A)   go up.
B)   go down.
C)   stay the same.
D)   slowly increase.

Question 11

Ke represents an expected return to shareholders as well as a cost to the firm.

Accepted Answer

A) True 
 B)False

Question 12

Jury Company has the following capital structure: 55% debt, 35% equity, and 10% preferred stock.
Calculate Jury's weighted average cost of capital (WACC) assuming no new common shares are issued, using the answers obtained from question 117.

Accepted Answer

The answer of Jury Company has the following capital structure:...

Question 13

Beta is a good measure of a stock's risk when the stock is combined into a portfolio.

Accepted Answer

A) True 
 B)False

Question 14

In determining the optimum capital structure it is assumed that the firm will raise capital in the optimum proportions every year.

Accepted Answer

A) True 
 B)False

Question 15

The cost of debt is determined by taking the:

Accepted Answer

A)   present value of the interest payments and principal times one minus the tax rate.
B)   historical yield on bonds times one minus the tax rate.
C)   estimated yield on new bond issues of the same risk times one minus the shareholder marginal tax rate.
D)   yield and subtracting the tax rate.

Question 16

A firm's stock is selling for $78. The next annual dividend is expected to be $2.34. The growth rate is 9%. The flotation cost is $5.00. What is the cost of retained earnings?

Accepted Answer

A)   12.82%
B)   12.21%
C)   12.00%
D)   9.41%

Question 17

The Abacus Computer Company has decided to use the Capital Asset Pricing Model to estimate its cost of equity. The firm's beta was estimated at 1.4. The S&P/TSX Composite-stock index has returned 12.5% to investors over a fairly long period of time, and Abacus has decided to use this value as the market return. Treasury bills are currently providing investors with a 6.5% yield.
A) Calculate Abacus's cost of equity using the CAPM.
B) If its beta was incorrectly estimated, and a new revised estimate of 1.8 was used in the calculations, what would its new estimate of the cost of equity be?

Accepted Answer

The answer of The Abacus Computer Company has decided to...

Question 18

Financial capital does not include:

Accepted Answer

A)   common equity capital.
B)   bonds.
C)   preferred shares.
D)   working capital.

Question 19

There may be a change in the marginal cost of capital curve because:

Accepted Answer

A)   the tax rate charged to investors changes.
B)   the firm has exhausted its supply of retained earnings.
C)   the firm is limited in the amount of amortization it can take.
D)   the firm has invested in a new project.

Question 20

A firm's cost of preferred stock is equal to the preferred dividend divided by the net price after flotation costs Kp = (Dp/Po - F).

Accepted Answer

A) True 
 B)False

Exam 11: Cost of Capital

In determining the optimum capital structure it is assumed that the firm will raise capital in the optimum proportions every year.

Correct Answer
verified

An increase in investors' aversion to risk causes the SML to shift up parallel to the old SML.

Correct Answer
verified

In the Net Operating Income approach to cost-of-capital analysis, a firm's value depends on:

Correct Answer
verified

The cost of capital for each source of funds is a cost dependent on current market conditions and expected rates of return.

Correct Answer
verified

Jury Company has the following capital structure: 55% debt, 35% equity, and 10% preferred stock. Calculate Jury's weighted average cost of capital (WACC) assuming no new common shares are issued, using the answers obtained from question 117.

Correct Answer
verified

The cost of debt is determined by taking the:

Correct Answer
verified

Although debt financing is usually the cheapest component of capital, it cannot be used to excess because:

Correct Answer
verified

Correct Answer
verified

Although the after tax cost of debt is below the cost of equity, firms cannot increase their use of debt without limit.

Correct Answer
verified

K_e represents an expected return to shareholders as well as a cost to the firm.

Correct Answer
verified

The required rate of return for a stock which has 1.5 times the risk of the market in general will be:

Correct Answer
verified

The cost of capital is used as a discount rate because:

Correct Answer
verified

A firm's cost of preferred stock is equal to the preferred dividend divided by the net price after flotation costs K_p = (D_p/P_o - F).

Correct Answer
verified

Financial capital does not include:

Correct Answer
verified

If the flotation cost goes up, the cost of retained earnings will:

Correct Answer
verified

The after tax cost of debt will usually be below:

Correct Answer
verified

Beta is a good measure of a stock's risk when the stock is combined into a portfolio.

Correct Answer
verified

There may be a change in the marginal cost of capital curve because:

Correct Answer
verified

A firm's stock is selling for $78. The next annual dividend is expected to be $2.34. The growth rate is 9%. The flotation cost is $5.00. What is the cost of retained earnings?

Correct Answer
verified

A general increase in interest rates will raise the required rates of return for all stocks.

Correct Answer
verified

Exam 11: Cost of Capital

In determining the optimum capital structure it is assumed that the firm will raise capital in the optimum proportions every year.

Correct AnswerverifiedShow Answer

An increase in investors' aversion to risk causes the SML to shift up parallel to the old SML.

Correct AnswerverifiedShow Answer

In the Net Operating Income approach to cost-of-capital analysis, a firm's value depends on:

Correct AnswerverifiedShow Answer

The cost of capital for each source of funds is a cost dependent on current market conditions and expected rates of return.

Correct AnswerverifiedShow Answer

Jury Company has the following capital structure: 55% debt, 35% equity, and 10% preferred stock. Calculate Jury's weighted average cost of capital (WACC) assuming no new common shares are issued, using the answers obtained from question 117.

Correct AnswerverifiedShow Answer

The cost of debt is determined by taking the:

Correct AnswerverifiedShow Answer

Although debt financing is usually the cheapest component of capital, it cannot be used to excess because:

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Although the after tax cost of debt is below the cost of equity, firms cannot increase their use of debt without limit.

Correct AnswerverifiedShow Answer

Ke represents an expected return to shareholders as well as a cost to the firm.

Correct AnswerverifiedShow Answer

The required rate of return for a stock which has 1.5 times the risk of the market in general will be:

Correct AnswerverifiedShow Answer

The cost of capital is used as a discount rate because:

Correct AnswerverifiedShow Answer

A firm's cost of preferred stock is equal to the preferred dividend divided by the net price after flotation costs Kp = (Dp/Po - F).

Correct AnswerverifiedShow Answer

Financial capital does not include:

Correct AnswerverifiedShow Answer

If the flotation cost goes up, the cost of retained earnings will:

Correct AnswerverifiedShow Answer

The after tax cost of debt will usually be below:

Correct AnswerverifiedShow Answer

Beta is a good measure of a stock's risk when the stock is combined into a portfolio.

Correct AnswerverifiedShow Answer

There may be a change in the marginal cost of capital curve because:

Correct AnswerverifiedShow Answer

A firm's stock is selling for $78. The next annual dividend is expected to be $2.34. The growth rate is 9%. The flotation cost is $5.00. What is the cost of retained earnings?

Correct AnswerverifiedShow Answer

A general increase in interest rates will raise the required rates of return for all stocks.

Correct AnswerverifiedShow Answer

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

K_e represents an expected return to shareholders as well as a cost to the firm.

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

A firm's cost of preferred stock is equal to the preferred dividend divided by the net price after flotation costs K_p = (D_p/P_o - F).

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified