#1
Which of the following represents financial leverage?
Taking a bank loan
ExplanationFinancial leverage involves using debt to amplify returns.
#2
Which of the following is NOT a component of the capital structure?
Inventory
ExplanationInventory is not a financing source; it's an asset.
#3
What is the formula to calculate the debt-to-equity ratio?
Total debt / Equity
ExplanationIt measures the proportion of financing from debt and equity.
#4
What does the term 'capital structure' refer to in finance?
The mix of debt and equity used to finance operations
ExplanationIt denotes the composition of a firm's financing sources.
#5
Which of the following is a measure of financial leverage?
Debt Ratio
ExplanationIt evaluates the proportion of debt in the capital structure.
#6
What does the debt-to-equity ratio measure?
The proportion of long-term debt in the capital structure
ExplanationIt gauges the balance between debt and equity financing.
#7
How does financial leverage affect a company's earnings per share (EPS)?
Increases EPS
ExplanationFinancial leverage boosts EPS through magnified returns on equity.
#8
What happens to the weighted average cost of capital (WACC) as a company increases its debt?
Increases
ExplanationWACC rises due to higher cost of debt.
#9
What is the primary advantage of using debt financing?
Lower cost of capital
ExplanationDebt usually carries lower cost than equity.
#10
Which statement best describes financial leverage?
The use of debt to increase the return on equity
ExplanationIt amplifies returns on equity through debt usage.
#11
What is the key assumption of the Modigliani-Miller theorem?
Perfect capital markets
ExplanationIt assumes no taxes, no bankruptcy costs, and perfect information.
#12
Which theory suggests that there is an optimal capital structure that maximizes a company's value?
Modigliani-Miller theorem
ExplanationIt posits that capital structure is irrelevant under certain assumptions.
#13
How does financial leverage magnify returns for shareholders?
By increasing the volatility of earnings
ExplanationIt escalates earnings volatility, thereby impacting returns.
#14
Which financial ratio measures a company's ability to meet its long-term financial obligations?
Interest coverage ratio
ExplanationIt assesses the firm's ability to service its debt.
#15
In the context of capital structure decisions, what does the trade-off theory propose?
Companies should maximize the use of debt
ExplanationIt suggests a balance between tax benefits and bankruptcy costs of debt.
#16
Which of the following is NOT a factor influencing a company's optimal capital structure?
Company size
ExplanationCompany size doesn't directly impact capital structure choices.
#17
What is the significance of the pecking order theory in capital structure decisions?
It suggests that firms prefer internal financing over external financing
ExplanationIt highlights the preference for internal funds due to information asymmetry.