Certified Management Accountant Corporate Finance

Question 1

According to the Modigliani-Miller theorem with corporate taxes, firm value increases with debt because:

Accepted Answer

Interest payments are tax-deductible, creating a valuable tax shield

Answer

Debt reduces agency costs between managers and shareholders

Answer

Debt holders have legal priority over equity holders in liquidation

Answer

Debt reduces the required return on equity

Question 2

The optimal capital structure for a firm minimizes:

Accepted Answer

Weighted average cost of capital (WACC)

Answer

Total assets on the balance sheet

Answer

Earnings per share volatility

Answer

Book value of equity

Question 3

Financial leverage amplifies:

Accepted Answer

Both positive and negative returns to equity holders

Answer

Only positive returns to equity holders when performance is good

Answer

Only negative returns to equity holders when performance is poor

Answer

The tax benefits of debt financing regardless of performance

Question 4

Which capital structure theory suggests firms prefer internal financing first, then debt, and equity only as a last resort?

Accepted Answer

Pecking order theory

Answer

Trade-off theory

Answer

Agency theory

Answer

Market timing theory

Question 5

The degree of financial leverage (DFL) measures:

Accepted Answer

The sensitivity of earnings per share (EPS) to a change in EBIT

Answer

The ratio of total debt to total equity

Answer

The absolute dollar cost of debt financing

Answer

The percentage of total assets financed by debt

Question 6

A firm's debt-to-equity ratio increases from 0.5 to 1.0. All else equal, this change will most likely:

Accepted Answer

Increase the firm's financial risk

Answer

Decrease the firm's financial risk

Answer

Have no effect on the firm's cost of equity

Answer

Reduce the firm's annual tax liability