Reference no: EM132743177

Problem 1: Horton Anonymous has a debt-to-equity ratio of one and pays a flat tax of 15% on taxable income. Which one of the following statements is correct in relation to M&M Proposition II?

Multiple Choice

Option 1: The firm's required return on assets is greater than the weighted average cost of capital.

Option 2: The firm's required return on assets is equal to the weighted average cost of capital.

Option 3: The firm's cost of equity remains constant as the debt-equity ratio increases.

Option 4: The firm's financial risk is unaffected by the debt-equity ratio.

Option 5: The firm's cost of equity is inversely related to the debt-equity ratio.

Problem 2: Widgets-R-Us is considering changing its capital structure away from all-equity. Assume there are no taxes. At the break-even level, the:

Multiple Choice

Option 1: earnings before taxes is the same for the levered and unlevered firm.
Option 2: Incorrect
Option 3: earnings per share is the same for the levered and unlevered firm.
Option 4: earnings per share for the levered option are exactly double those of the unlevered option.
Option 5: advantages of leverage exceed the disadvantages of leverage.
Option 6: firm's earnings before interest and taxes are equal to zero.