Question 1

Your firm has debt worth $200,000, with a yield of 9%, and equity worth $300,000. It is growing at a 5% rate, and its tax rate is 40%. A similar firm with no debt has a cost of equity of 12%. Under the MM extension with growth, what is the value of your firm's tax shield, i.e., how much value does the use of debt add?

Accepted Answer

A)   $92,571
B)   $102,857
C)   $113,143
D)   $124,457
E)   $136,903F) A) and C)
G) A) and E)

Question 2

The Miller model begins with the MM model without corporate taxes and then adds personal taxes.

Accepted Answer

A) True 
 B)False

Question 3

MM showed that in a world without taxes, a firm's value is not affected by its capital structure.

Accepted Answer

A) True 
 B)False

Question 4

Which of the following statements concerning capital structure theory is NOT CORRECT?

Accepted Answer

A)   The major contribution of Miller's theory is that it demonstrates that personal taxes decrease the value of using corporate debt.
B)   Under MM with zero taxes, financial leverage has no effect on a firm's value.
C)   Under MM with corporate taxes, the value of a levered firm exceeds the value of the unlevered firm by the product of the tax rate times the market value dollar amount of debt.
D)   Under MM with corporate taxes, rs increases with leverage, and this increase exactly offsets the tax benefits of debt financing.E) None of the above
F) A) and D)

Question 5

(The following data apply to Problems 26 through 28. The problems MUST be kept together.) 
Gomez computer systems has an EBIT of $200,000, a growth rate of 6%, and its tax rate is 40%. In order to support growth, Gomez must reinvest 20% of its EBIT in net operating assets. Gomez has $300,000 in 8% debt outstanding, and a similar company with no debt has a cost of equity of 11%.
-According to the MM extension with growth, what is Gomez's value of equity?

Accepted Answer

A)   $1,492,000
B)   $1,529,300
C)   $1,567,533
D)   $1,606,721
E)   $1,646,889F) B) and D)
G) A) and C)

Question 6

In a world with no taxes, MM show that a firm's capital structure does not affect the firm's value. However, when taxes are considered, MM show a positive relationship between debt and value, i.e., its value rises as its debt is increased.

Accepted Answer

A) True 
 B)False

Question 7

(The following data apply to Problems 23 through 25. The problems MUST be kept together.) 
The Kimberly Corporation is a zero growth firm with an expected EBIT of $100,000 and a corporate tax rate of 30%. Kimberly uses $500,000 of 12.0% debt, and the cost of equity to an unlevered firm in the same risk class is 16.0%.
-Assume that the firm's gain from leverage according to the Miller model is $126,667. If the effective personal tax rate on stock income is TS = 20%, what is the implied personal tax rate on debt income?

Accepted Answer

A)   16.4%
B)   18.2%
C)   20.2%
D)   22.5%
E)   25.0%F) A) and B)
G) B) and E)

Question 8

Firm L has debt with a market value of $200,000 and a yield of 9%. The firm's equity has a market value of $300,000, its earnings are growing at a 5% rate, and its tax rate is 40%. A similar firm with no debt has a cost of equity of 12%. Under the MM extension with growth, what would Firm L's total value be if it had no debt?

Accepted Answer

A)   $358,421
B)   $377,286
C)   $397,143
D)   $417,000
E)   $437,850F) B) and C)
G) B) and E)

Question 9

MM showed that in a world with taxes, a firm's optimal capital structure would be almost 100% debt.

Accepted Answer

A) True 
 B)False

Question 10

Which of the following statements concerning the MM extension with growth is NOT CORRECT?

Accepted Answer

A)   The tax shields should be discounted at the unlevered cost of equity.
B)   The value of a growing tax shield is greater than the value of a constant tax shield.
C)   For a given D/S, the levered cost of equity is greater than the levered cost of equity under MM's original (with tax)  assumptions.
D)   For a given D/S, the WACC is less than the WACC under MM's original (with tax)  assumptions.E) C) and D)
F) A) and C)

Question 11

(The following data apply to Problems 23 through 25. The problems MUST be kept together.) 
The Kimberly Corporation is a zero growth firm with an expected EBIT of $100,000 and a corporate tax rate of 30%. Kimberly uses $500,000 of 12.0% debt, and the cost of equity to an unlevered firm in the same risk class is 16.0%.
-What is the value of the firm according to MM with corporate taxes?

Accepted Answer

A)   $475,875
B)   $528,750
C)   $587,500
D)   $646,250
E)   $710,875F) A) and B)
G) D) and E)

Exam 26: Analysis of Capital Structure Theory

The Miller model begins with the MM model without corporate taxes and then adds personal taxes.

Correct Answer
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In a world with no taxes, MM show that a firm's capital structure does not affect the firm's value. However, when taxes are considered, MM show a positive relationship between debt and value, i.e., its value rises as its debt is increased.

Correct Answer
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Correct Answer
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MM showed that in a world with taxes, a firm's optimal capital structure would be almost 100% debt.

Correct Answer
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Which of the following statements concerning capital structure theory is NOT CORRECT?

Correct Answer
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MM showed that in a world without taxes, a firm's value is not affected by its capital structure.

Correct Answer
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Which of the following statements concerning the MM extension with growth is NOT CORRECT?

Correct Answer
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Exam 26: Analysis of Capital Structure Theory

The Miller model begins with the MM model without corporate taxes and then adds personal taxes.

Correct AnswerverifiedShow Answer

In a world with no taxes, MM show that a firm's capital structure does not affect the firm's value. However, when taxes are considered, MM show a positive relationship between debt and value, i.e., its value rises as its debt is increased.

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

MM showed that in a world with taxes, a firm's optimal capital structure would be almost 100% debt.

Correct AnswerverifiedShow Answer

Which of the following statements concerning capital structure theory is NOT CORRECT?

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

MM showed that in a world without taxes, a firm's value is not affected by its capital structure.

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Which of the following statements concerning the MM extension with growth is NOT CORRECT?

Correct AnswerverifiedShow Answer

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