Which of the following statements is false? The optimal level of debt D*, balances the costs and benefits of leverage. If the debt level is too large firm value is reduced due to the loss of tax benefits (when interest exceeds EBIT), financial distress costs, and the agency costs of leverage. As the debt level increases, the firm faces worse incentives for management, which increase wasteful investment and perks As the debt level increases, the firm benefits from the interest tax shield (PV of interest tax shield isTc xD). (Tc= marginal corporate tax rate)

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Hubert KochLv2

28 Sep 2019

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As the level of debt increases, the value of the firm increases from the interest tax shield (TC xD) as well as improvements in managerial incentives. If leverage is too high, however, the present value of financial distress costs, as well as the agency costs from debt holderâequity holder conflicts, dominates and reduces firm value. The optimal level of debt, D*, balances these benefits and costs of leverage.

Pick one of the following UNDERINVESTMENT PROBLEM PECKING ORDER THEORY AGENCY COST OF DEBT TRADEOFF THEORY

bronzewater-buffalo862

1. Your company pays interest on its 3 year, 6% coupon rate debt as follows: Year 1: $50 million Year 2: $40 million Year 3: $30 million The tax rate is 40%. What is the present value of the interest tax shield if the discount rate is 8%? 48 mil 41.76 mil 52.23 mil 32.18 mil

2. How does the interest deduction from taxes affect the conclusions of the MM Propositions? Firm value increases with leverage but WACC remains constant. Firm value decreases with leverage, and WACC is unaffected. Firm value decreases with leverage, and WACC inreases with leverage. Firm value increases with leverage and WACC decreases with leverage..

3.Which of the following is true about agency considerations in finding the optimal capital structure for a firm? No answer text provided. Outside equity costs more than debt, and debt costs more than retained earnings due to information asymmetry. Therefore, finance project with retained earnings first, debt second, and outside equity last. Through their control of management, stockholders will take more risk than what is in bondholders' interets. The optimal level of debt is determined by trading off the benefits of deducting interest from taxes and the costs of financial distress.

skyhedgehog100

When the assumptions of Modigliani and Millerâs Irrelevance Hypothesis regarding corporate capital structure are relaxed so that they are more consistent with real-world conditions, i.e. there are corporate taxes (and interest payments are tax deductible) and there are costs of financial distress, then which of the following is true?

		Firm value and WACC are independent of the firm's capital structure.
		Firm value increases and WACC decreases initially as more debt is added to the firm's capital structure, however, there comes a point where adding additional debt generates potential costs of financial distress that outweigh the benefits of further reducing taxes. After this point, firm value starts to decrease and WACC starts toincrease as more debt is added.
		Each firm has an optimal capital structure where WACC is maximized.
		Each firm has an optimal capital structure where firm value is minimized.
		Firm value increases and WACC increases initially as more debt is added to the firm's capital structure, however, there comes a point where adding additional debt generates potential costs of financial distress that outweigh the benefits of further reducing taxes. After this point, firm value and WACC start to decrease as more debt is added.

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