Capital Structure practice questions

What to know

Identify the rule, formula, or decision criterion before reading the answer choices. CFA Level I distractors often use the right vocabulary with the wrong condition.

How to practice

Work each item under time pressure, then compare your reasoning with the step-by-step explanation and key takeaway.

Review signal

Missed questions should become scheduled reviews when the error comes from a concept gap, formula setup, or answer-choice trap.

Corporate Issuers

Capital Structure

Under Modigliani-Miller Proposition I with corporate taxes, and assuming no costs of financial distress, increasing the proportion of debt in a company's capital structure most likely:

Corporate Issuers

Capital Structure

Orinoco Chemicals has a target capital structure of 30% debt, 10% preferred stock, and 60% common equity. Its before-tax cost of debt is 7.0%, its cost of preferred stock is 6.5%, its cost of common equity is 12.0%, and its marginal tax rate is 21%. The company's WACC is closest to:

Corporate Issuers

Capital Structure

A mature company with ample internal cash flow announces a large seasoned offering of common shares to fund routine projects. According to pecking order theory, investors are most likely to interpret the announcement as a signal that:

Corporate Issuers

Capital Structure

Calloway Marine has increased leverage steadily for several years. Its CFO argues that because the after-tax cost of debt remains below the cost of equity, issuing additional debt to retire equity must keep lowering the company's WACC. According to static trade-off theory, this argument is most likely flawed because:

Corporate Issuers

Capital Structure

The weighted-average cost of capital is most accurately described as the:

Corporate Issuers

Capital Structure

The cost of debt used in WACC is most appropriately measured on an after-tax basis because:

Corporate Issuers

Capital Structure

A company has target market-value weights of 40% debt and 60% equity. Its pretax cost of debt is 6%, cost of equity is 11%, and marginal tax rate is 25%. WACC is closest to:

Corporate Issuers

Capital Structure

A firm has debt with book value of 300 million and market value of 360 million. Equity has book value of 500 million and market value of 840 million. Pretax cost of debt is 5%, cost of equity is 10%, and tax rate is 20%. Using market-value weights, WACC is closest to:

Corporate Issuers

Capital Structure

Under Modigliani-Miller propositions with no taxes, no bankruptcy costs, and perfect capital markets, increasing leverage most likely:

Corporate Issuers

Capital Structure

Static trade-off theory suggests the optimal capital structure is reached when:

Corporate Issuers

Capital Structure

According to pecking order considerations, a manager with information asymmetry concerns is most likely to prefer financing new investments first with:

Corporate Issuers

Capital Structure

A company with an 8% WACC is evaluating a project in a much riskier business than its existing operations. The most appropriate hurdle rate is: