What is the change in value for a firm with $1 million in equity, $1 million in permanent debt at a 10% interest rate, and a 35% tax rate if MM I is modified to recognize corporate taxes?
A. Value increases by $35,000.
B. Value increases by $100,000.
C. Value increases by $350,000.
D. Value increases by $700,000.
92. With a tax rate of 35%, calculate the WACC for a firm that pays 10% on its debt, requires an 18% rate of return on its equity, and finances 45% of assets with debt.
93. What is the after-tax cost of debt for a firm in the 35% tax bracket that pays 15% on its debt?
94. A firm has an expected return on equity of 16% and an after-tax cost of debt of 8%. What debt-equity ratio should be used in order to keep the WACC at 12%?
95. The present value of the costs of financial distress increases with increases in the debt ratio because the:
A. expected return on assets increases.
B. present value of the interest tax shield is greater.
C. equity tax shield is depleted.
D. probability of default and/or bankruptcy is greater.
96. When financial disaster is looming, management may borrow to invest in projects having a negative expected NPV because:
A. the firm's beta is now negative.
B. taxes are no longer a concern.
C. the interest tax shield will cover the loan costs.
D. the lender bears all the risk.
97. Although the value of an additional interest tax shield may be positive, firms may restrict borrowing if:
A. the returns on the project are too high.
B. their asset base is largely intangible.
C. their asset beta is zero.
D. the borrowing increases their WACC.
98. The present value of a perpetual tax shield increases as the firm's tax rate _____ and the amount of principal ____.
A. increases; increases
B. increases; decreases
C. decreases; decreases
D. decreases; increases
99. When large firms file for bankruptcy:
A. the proceedings involve costly delays and legal tangles, and the business continues to deteriorate.
B. their purpose is usually to nurse the firm back to health and enable it to face the world again.
C. their benefit is that their creditors will be forced by law to give up their claims on the firm.
D. their creditors often try to seize the assets as soon as possible.
100. The possibility of bankruptcy will do all of the following except:
A. increase financial distress costs.
B. reduce the current market value of the firm.
C. reduce the interest rate on debt.
D. reduce the possible payoff to stockholders.
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