Reading 39: Analysis of Financing Liabilities - LOS f ～ Q black, class, increase

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1．An increase in interest rates is most likely to benefit:

A)   firms with better credit ratings.

B)   firms with more equity than debt.

C)   firms with no debt.

D)   firms that issued debt at a lower cost than current rates.

 

2．For a firm financed with common stock and fixed-rate debt, an analyst should most appropriately adjust which of the following items for a change in market interest rates?

A)   Debt-to-equity ratio.

B)   Interest expense.

C)   Deferred tax liabilities.

D)   Cash flow from financing.

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答案和详解如下：

1．An increase in interest rates is most likely to benefit:

A)   firms with better credit ratings.

B)   firms with more equity than debt.

C)   firms with no debt.

D)   firms that issued debt at a lower cost than current rates.

The correct answer was D)

Firms that issued the debt at a lower cost than the current rates will benefit from an increase in interest rates. The higher interest rates will decrease the market value of their outstanding debt.

 

2．For a firm financed with common stock and fixed-rate debt, an analyst should most appropriately adjust which of the following items for a change in market interest rates?

A)   Debt-to-equity ratio.

B)   Interest expense.

C)   Deferred tax liabilities.

D)   Cash flow from financing.

The correct answer was A)

For the purpose of analysis, the value of debt should be adjusted for a change in interest rates. This will change the debt-to-equity ratio. Because changes in interest rates will change the market value of the debt, but not the coupon, interest expense will be unchanged. (However, if a firm has variable-rate debt, interest expense will change when interest rates change, but the market value of the variable-rate debt will not change significantly.)