31: Capital Structures Flashcards
Stock dividends, like stock splits, have what impact on a company’s equity?
no impact on the value of a company’s equity
Share appreciation/depreciation has what impact on a company’s equity?
increase the market value of equity, thus increasing equity relative to debt
Cash flow typically turns positive during the _____ stage, but it may be negative, particularly at the beginning of this stage
growth stage
Modigliani-Miller Proposition I, with _____ states that in perfect markets the level of debt versus equity in the capital structure has what effect?
no taxes;
capital structure has no effect on company value
aka “the capital structure irrelevance theorem”
Modigliani-Miller Proposition, with taxes states that a company’s WACC is ______ and its value maximized, with _____
WACC minimized
value maximized with 100% debt financing
the value of the levered company is greater than that of the all-equity company by an amount equal to the tax rate multiplied by the value of the debt, also termed the debt tax shield.”
The optimal capital structure:
maximizes firm value and minimizes its WACC
The cost of equity _____ with the _____ debt in the capital structure
equity increases with the use of debt
Modigliani- Miller proposition II, no taxes
If the company’s WACC increases as a result of taking on additional debt, the company has moved beyond _____
the optimal capital range
The static trade-off theory indicates that there is a trade-off between the ______ and the ______, leading to _______ in a company’s tcapital structure
tax shield from interest on debt
costs of financial distress
an optimal amount of debt
Debt can be a significant portion of the optimal capital structure because of the ______
tax-deductibility of interest
Because of information asymmetry, Issuing debt may signal to investors:
that management is confident in company’s ability to make these payments
Because of information asymmetry, Issuing equity may signal to investors:
that management believes the stock is overvalued
The pecking order state:
1. ____________ are preferable to both:
2. ______
3. _____
internally generated funds
new debt
new equity
arise because management and shareholders may have conflicting interests
agency costs
Agency costs can be reduced by:
increased debt issuance
A company will typically use debt for the largest percentage of its financing during which stage?
Mature companies are able to support more debt than start-up companies or growth stage companies because they typically have predictable positive cash flows, lower business risk, and significant liquid assets.
Companies have an optimal level of debt, according to which theory?
Static trade off
____-term debt is more exposed to the risk of a management decision that is not debt-holder friendly, likely resulting in debt-equity conflicts
long term debt
Sales risk and operating risk compromise:
business risk
Risk associated with the refinancing of debt:
Rollover risk:
a company financing long-term assets with short-term obligations faces rollover risk, which may threaten profitability if short-term financing costs go up over the financing period
A company financing short-term assets by issuing long-term debt most likely increases:
Default risk
