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Nile Food's stock has a beta of 1.4, while Elba Eateries' stock has a beta of 0.7. Assume
that the risk-free rate, rRF, is 5.5% and the market risk premium, (rM - rRF), equals 4%.
Which of the following statements is CORRECT?
a.If the risk-free rate increases but the market risk premium remains unchanged, the
required return will increase for both stocks but the increase will be larger for Nile since
it has a higher beta.
b.If the market risk premium increases but the risk-free rate remains unchanged, Nile's
required return will increase because it has a beta greater than 1.0 but Elba's required
return will decline because it has a beta less than 1.0.
c.Since Nile's beta is twice that of Elba's, its required rate of return will also be twice
that of Elba's.
d.If the risk-free rate increases while the market risk premium remains constant, then
the required return on an average stock will increase.
e.If the market risk premium decreases but the risk-free rate remains unchanged, Nile's
required return will decrease because it has a beta greater than 1.0 and Elba's will also
decrease, but by more than Nile's because it has a beta less than 1.0.
The degree of operating leverage has which of the following characteristics?
a.The closer the firm is operating to the breakeven quantity, the smaller the DOL.
b.A change in quantity demanded will produce the same percentage change in EBIT as
an identical change in price per unit of output, other things held constant.
c.The DOL is not a fixed number for a given firm, but will depend upon the time zero
values of the economic variable Q (Quantity), P (Price), and V (Volume).
d.The DOL relates the change in net income to the change in operating income.
e.If the firm has no debt, the DOL will equal 1.
