TRUE OR FALSE?

1) Capital structure is equal to financial structure minus current liabilities.

2) The optimal capital structure occurs when operating leverage equals financial leverage.

3) Higher bankruptcy costs will result in optimal capital structures using more long-term debt
financing.
4) Financial structure includes long- and short-term sources of funds.

5) According to the moderate view of capital structure theory, the cost of common equity is
constant regardless of the debt financing level.

6) The objective of capital structure management is to maximize the market value of the firm's
common stock.

7) The independence hypothesis suggests that the total market value of the firm's outstanding
securities is unaffected by its capital structure.

8) The moderate view of capital structure theory allows for the tax-deductibility of interest
expense.

9) Other things the same, the use of debt financing reduces the firm's total tax bill resulting in a
higher total market value.

9) The tax shield on interest is calculated by multiplying the interest rate paid on debt by the
principal amount of the debt and the firm's marginal tax rate.

10) A firm's cost of capital is not affected by the composition of the right-hand side of the firm's
balance sheet, but rather is determined by the firm's mix of assets.

11) Financial structure is another term for capital structure.

12) Financial structure is equal to non-interest bearing liabilities, such as accounts payable and
accruals, plus capital structure, which includes short- and long-term debt, preferred stock, and
common equity.
15) Two key components of a prudent capital structure are the debt maturity composition and the
debt to equity composition.

16) Borrowing funds using short-term debt, such as commercial paper, and using the proceeds to
invest in long-term investments, creates a re-financing risk that can force firm's to sell assets at
distressed prices if financing becomes unavailable.

17) Corporations that are heavily committed to investments in fixed assets that are expected to
produce cash flow over many years generally favor long-term debt to the extent that they borrow.

18) A saucer-shaped or U-shaped weighted average cost of capital curve results from the tax
deductibility of interest, which results in the downward slope, followed by the recognition of potential
financial distress costs, that cause the upward slope as the amount of debt ratio increases.

19) A corporation's debt capacity is the maximum proportion of debt that the corporation can include
in its capital structure and still maintain its lowest composite cost of capital.

20) The independence hypothesis allows for bankruptcy and agency costs.
skills

21) The independence hypothesis suggests that the cost of equity decreases as financial leverage
increases.

22) If we ignore bankruptcy and agency costs then the optimal capital structure for a firm under the
moderate view would be 100% debt.

23) The implicit cost of debt takes into consideration the change in the cost of common equity brought
on by using additional debt.

24) The control hypothesis suggests that shareholders prefer an increase in the firm's debt in order to
reduce the agency costs associated with excessive free cash flow.