1) A corporation that is short on cash will take a trade discount of 2/10 net 30 only if the
corporation’s cost of funds is less than 2%.
2) Financing with new common stock is generally more costly than financing with
retained earnings due to increasing tax rates.
3) Profits-to-Sales relationships are defined as profit margins.
4) In order to create value a corporation must earn a rate of return on its invested capital
that is higher than the market’s required rate of return on that invested capital.
5) An increase in a corporation’s marginal tax rate will decrease the corporation’s cost of
debt, but have no impact on its cost of preferred stock or cost of common equity.
6) Free cash flow calculations can be broken down into three parts: cash flows from
operations, cash flows associated with working-capital requirements, and financing
cash flows relating to interest and dividend payments.
7) The discounted payback period takes the time value of money into account in that it
uses discounted free cash flows rather than actual undiscounted free cash flows in
calculating the payback period.
8) A company decreases the risk of insolvency by financing long-term assets with
short-term debt.
9) When fixed costs are part of a firm’s cost structure, the percent of sales method will
understate net income and overstate discretionary financing needed, if sales are
increasing.
10) Operating leverage is the responsiveness of a firm’s EBIT to changes in sales
revenues.
11) One positive feature of the payback period is it emphasizes the earliest forecasted
free cash flows, which are less uncertain than later cash flows and provide for the
liquidity needs of the firm.