CFC Capital Structure & Funding 3 — Questions and Answers
Question 1: A company's stock is currently trading at $40 per share with 1,000,000 shares outstanding. It has $10,000,000 in debt. What is the firm's enterprise value?
- $40,000,000
- $50,000,000 (Correct answer)
- $30,000,000
- $10,000,000
Correct answer: $50,000,000
Enterprise value = Market capitalization + Debt = (1,000,000 × $40) + $10,000,000 = $40,000,000 + $10,000,000 = $50,000,000.
Question 2: Which of the following is a characteristic of a revolving credit facility?
- Fixed repayment schedule with no ability to re-borrow
- Borrower can draw, repay, and re-borrow up to a set limit (Correct answer)
- Requires immediate full disbursement at closing
- Converts to equity after a defined period
Correct answer: Borrower can draw, repay, and re-borrow up to a set limit
A revolving credit facility allows the borrower to draw funds, repay them, and borrow again up to the credit limit, providing flexible working capital access.
Question 3: Under SFAS 141R (ASC 805), how must contingent consideration in a business acquisition be recognized?
- Expensed immediately as incurred
- Recognized at fair value on the acquisition date (Correct answer)
- Recorded only when payment becomes probable
- Disclosed in footnotes but not on balance sheet
Correct answer: Recognized at fair value on the acquisition date
ASC 805 requires contingent consideration to be recognized at fair value on the acquisition date and remeasured at each reporting period with changes flowing through income.
Question 4: A firm with a BBB credit rating seeks to issue 10-year bonds. Compared to an A-rated issuer of similar bonds, the BBB issuer will most likely:
- Pay a lower coupon rate due to higher demand
- Pay a higher coupon rate due to greater default risk (Correct answer)
- Issue at a premium to par value
- Face no difference in borrowing cost
Correct answer: Pay a higher coupon rate due to greater default risk
Lower credit ratings signal higher default risk, requiring issuers to offer higher coupon rates (credit spreads) to attract investors.
Question 5: Which funding method allows a private company to raise capital from accredited investors without SEC registration under Regulation D?
- Initial public offering (IPO)
- Private placement (Correct answer)
- Secondary offering
- Rights offering
Correct answer: Private placement
Regulation D private placements allow companies to raise capital from accredited investors without full SEC registration, reducing time and cost.
Question 6: Sale-leaseback transactions are primarily used by companies to:
- Increase asset book values on the balance sheet
- Convert fixed assets into liquidity while retaining operational use (Correct answer)
- Reduce operating lease obligations under ASC 842
- Transfer depreciation expense to the lessor
Correct answer: Convert fixed assets into liquidity while retaining operational use
In a sale-leaseback, a company sells an asset to a buyer who then leases it back, converting illiquid fixed assets into cash while maintaining operational control.
Question 7: The optimal capital structure for a firm in a high-growth industry with volatile earnings is most likely characterized by:
- High financial leverage to maximize tax shields
- Lower debt levels to preserve financial flexibility (Correct answer)
- Equal debt and equity proportions
- Exclusive reliance on short-term debt
Correct answer: Lower debt levels to preserve financial flexibility
High-growth firms with volatile earnings benefit from lower debt levels to maintain financial flexibility and avoid distress costs during earnings downturns.
CFC Capital Structure & Funding 3
A company's stock is currently trading at $40 per share with 1,000,000 shares outstanding.
It has $10,000,000 in debt.
What is the firm's enterprise value?