1. The component costs of capital are market-determined variables in as much as they are based on investors’ required returns.
*a. True
b. False
2. The cost of debt is equal to one minus the marginal tax rate multiplied by the coupon rate on outstanding debt.
a. True
*b. False
3. The cost of issuing preferred stock by a corporation must be adjusted to an after-tax figure because of the 70 percent dividend exclusion provision for corporations holding other corporations’ preferred stock.
a. True
*b. False
4. The firm’s cost of external equity capital is the same as the required rate of return on the firm’s outstanding common stock.
a. True
*b. False
5. The cost of equity raised by retaining earnings can be less than, equal to, or greater than the cost of equity raised by selling new issues of common stock, depending on tax rates, flotation costs, the attitude of investors, and other factors.
a. True
*b. False
6. The after-tax cost of debt is used to calculate the weighted average cost of capital since we are concerned with the after-tax cash flows of the firm.
*a. True
b. False
7. The marginal cost of capital (MCC) is the cost of the last dollar of new capital that the firm raises, and the marginal cost declines as more and more of a specific type of capital is raised during a given period.
a. True
*b. False
8. Even if a firm obtains all of its common equity from retained earnings, its MCC schedule might still increase if very large amounts of new capital are needed.
*a. True
b. False
9. The correct discount rate for a firm to use in capital budgeting, assuming that new investments are as risky as the firm’s existing assets, is its marginal cost of capital.
*a. True
b. False
10. The firm’s cost of capital represents the maximum rate of return that a firm can earn from its capital budgeting projects to ensure that the value of the firm increases.
a. True
*b. False
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