FIN 304 Final exam
Study online at https://quizlet.com/_jm3v72
1. Modigliani and Miller (M&M) The case of perfect markets (mainly no taxes
and no costs of financial distress
2. A Firm cannot change the total value of TRUE
its securities by splitting its cash flows into
different streams. Therefore financing de-
cisions do no matter in perfect market and
MARKET VALUE OF THE FIRMS IS INDEPEN-
DENT OF ITS CAPITAL STRUCTURE
3. When a company issues debt, what source Financial risk and that's borne by the equity
of risk is created? holders.
M&M maintained that that's correct but it
does not change RA
4. Ra= Expected operating income/value of all se-
curities
5. M&M show that although Ra stays con- true
stant, Re increases linearly with the debt to
equity ratio
6. The more the debt the higher the required true
return on (or cost of) equity but the RRR on
the assets of the firm remains the same.
7. Equity holders have no interest to the debt true
policy that the firm follows because any
increase in financial risk created by more
debt is exactly offset by their higher ex-
pected rate of return on their investment
8. WACC=[D/(D+E)]*Rd + [E/(D+E)]*Re
1/5
, FIN 304 Final exam
Study online at https://quizlet.com/_jm3v72
according to M&M the WACC is always
equal to Ra
9. The reason WACC stays constant while Re true
increases is that any increase in Re is exact-
ly offset by the increase in debt ratio and
the corresponding decrease in equity ratio
10. an optimal capital structure exists at the true
point of minimum WACC and maximum
firm value
11. M&M prop. 1 (with taxes) The value of the firm with debt (levered, Vl)
is equal to the value of the all-equity firm
(unlevered, Vu) plus the present value of the
interest tax shield.
Vl=Vu+T*D
As can be seen from above, the higher the
amount of debt the more valuable the firm
is.
12. Tradeoff theory of capital structure While Ra stays unchanged (reflecting busi-
ness risk which is not a function of capital
structure) the WACC, after falling due to the
tax effect starts rising again, creating a min-
imum WACC and thus and optimal capital
structure at debt levels well below 100%
Therefore, companies do well by expending
effort on locating the capital structure that
minimizes their cost of capital due to the fact
2/5
Study online at https://quizlet.com/_jm3v72
1. Modigliani and Miller (M&M) The case of perfect markets (mainly no taxes
and no costs of financial distress
2. A Firm cannot change the total value of TRUE
its securities by splitting its cash flows into
different streams. Therefore financing de-
cisions do no matter in perfect market and
MARKET VALUE OF THE FIRMS IS INDEPEN-
DENT OF ITS CAPITAL STRUCTURE
3. When a company issues debt, what source Financial risk and that's borne by the equity
of risk is created? holders.
M&M maintained that that's correct but it
does not change RA
4. Ra= Expected operating income/value of all se-
curities
5. M&M show that although Ra stays con- true
stant, Re increases linearly with the debt to
equity ratio
6. The more the debt the higher the required true
return on (or cost of) equity but the RRR on
the assets of the firm remains the same.
7. Equity holders have no interest to the debt true
policy that the firm follows because any
increase in financial risk created by more
debt is exactly offset by their higher ex-
pected rate of return on their investment
8. WACC=[D/(D+E)]*Rd + [E/(D+E)]*Re
1/5
, FIN 304 Final exam
Study online at https://quizlet.com/_jm3v72
according to M&M the WACC is always
equal to Ra
9. The reason WACC stays constant while Re true
increases is that any increase in Re is exact-
ly offset by the increase in debt ratio and
the corresponding decrease in equity ratio
10. an optimal capital structure exists at the true
point of minimum WACC and maximum
firm value
11. M&M prop. 1 (with taxes) The value of the firm with debt (levered, Vl)
is equal to the value of the all-equity firm
(unlevered, Vu) plus the present value of the
interest tax shield.
Vl=Vu+T*D
As can be seen from above, the higher the
amount of debt the more valuable the firm
is.
12. Tradeoff theory of capital structure While Ra stays unchanged (reflecting busi-
ness risk which is not a function of capital
structure) the WACC, after falling due to the
tax effect starts rising again, creating a min-
imum WACC and thus and optimal capital
structure at debt levels well below 100%
Therefore, companies do well by expending
effort on locating the capital structure that
minimizes their cost of capital due to the fact
2/5
