CPFM Corporate Valuation Methods 4

Question 1

The weighted average cost of capital (WACC) weights the cost of debt and equity by their:

Accepted Answer

Market value proportions in the capital structure

Answer

Book value at incorporation

Answer

Par value of bonds only

Answer

Historical cost of assets

Question 2

Why is the cost of debt multiplied by (1 − tax rate) in the WACC formula?

Accepted Answer

Interest expense is tax-deductible, providing a tax shield

Answer

Dividends are tax-deductible

Answer

Debt principal is taxed

Answer

Equity returns are tax-free

Question 3

The Capital Asset Pricing Model (CAPM) estimates the cost of equity as:

Accepted Answer

Risk-free rate + beta × equity risk premium

Answer

Risk-free rate × beta

Answer

Dividend yield + tax rate

Answer

WACC − cost of debt

Question 4

A firm with a beta of 1.5 is expected to be:

Accepted Answer

More volatile than the overall market

Answer

Less volatile than the market

Answer

Completely uncorrelated with the market

Answer

Risk-free

Question 5

All else equal, increasing the proportion of low-cost debt in the capital structure will generally:

Accepted Answer

Lower WACC up to a point, then raise it as financial risk grows

Answer

Always lower WACC indefinitely

Answer

Always raise WACC

Answer

Have no effect on WACC

Question 6

Which input would an analyst most likely use as a proxy for the risk-free rate in a U.S. valuation?

Accepted Answer

Yield on 10-year U.S. Treasury notes

Answer

Average corporate bond yield

Answer

S&P 500 dividend yield

Answer

Prime lending rate

Question 7

An unlevered (asset) beta is used to:

Accepted Answer

Remove the effect of financial leverage before re-levering for a target structure

Answer

Increase the equity risk premium

Answer

Calculate after-tax cost of debt

Answer

Eliminate market risk entirely