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99. Which of the following statements is correct?
100. The Modigliani-Miller (M&M) theorem states that:
101. If an investor wanted to reduce the risk of a levered stock in their portfolio, how could
they go about doing so while still retaining shares in the company?
102. Why is debt often referred to as leverage in finance?
103. An all-equity financed firm has $450 in assets and the stock price is $45. If the firm
restructures with 20 percent debt which creates interest expense of $10 per year and the firm's
tax rate is 40 percent, what is the break-even EBIT?
104. An all-equity financed firm has $350 in assets and the stock price is $10. If the firm
restructures with 20 percent debt which creates interest expense of $14 per year and the firm's
tax rate is 40 percent, what is the break-even EBIT?
105. An all-equity financed firm has $650 in assets and the stock price is $20. If the firm
restructures with 40 percent debt which creates interest expense of $17 per year and the firm's
tax rate is 40 percent, what is the break-even EBIT?
106. An all-equity financed firm has $500 in assets and the stock price is $20. If the firm
restructures with 15 percent debt which creates interest expense of $30 per year and the firm's
tax rate is 40 percent, what is the break-even EBIT?
107. Which strategy—active or passive capital structure management—would make the
process of changing the firm's capital structure a longer-term proposition? Why?
108. Why does the optimal capital structure shift from "debt doesn't matter" to "the more debt,
the better" when we add corporate taxation to our assumptions?
109. Explain why, in a world with both corporate taxes and the chance of bankruptcy, a small
firm with volatile EBIT is unlikely to have much debt?
110. Explain why utility firms tend to have fairly high debt ratios.
111. In M&M's perfect world, will the debt holders ever bear any of the risk of the firm?
112. State the order claimants will be paid according to the absolute priority rule in a Chapter
7 bankruptcy.
113. Differentiate between active and passive changes to capital structure.
114. What two main factors come into play when a firm is deciding to change its funding mix
with regard to their capital structure?
115. Explain how the firm apportions risk and return amongst stockholders and bondholders in
a "perfect world."
116. Describe "The More Debt, The Better" statement with regard to the optimal capital
structure.
117. Why, in finance, do we refer to using debt within a firm's capital structure as leverage?
118. Define the Modigliani-Miller (M&M) theorem and list the four features of their "perfect
world."
1. No taxes
2. No chance of bankruptcy
3. Perfectly efficient markets
4. Symmetric information sets for all participants.
119. Explain how Irving Fisher's separation principle addresses the question of what will
happen to a firm's WACC in M&Ms perfect world as the capital structure changes.
120. Explain how passive capital structure management works.
