LOS o: Explain the factors an analyst should consider in evaluating the impact of capital structure policy on valuation.
Q1. Michael Sherman is a finance professor at the University of Tuskaloosa. In a recent lecture concerning the factors an analyst should consider when evaluating the impact of capital structure on the valuation of a firm, Sherman makes the following statements:
Statement 1: The changes that occur in a company’s capital structure over time are irrelevant for assessing the impact of capital structure on valuation because changes in market conditions mean that only the current capital structure is relevant for analysis.
Statement 2: If an analyst is comparing the capital structure of one firm to the capital structure of a competitor firm, it is important to adjust the analysis for differences in business risk.
Sherman’s students should agree with:
A) only one statement.
B) both statements.
C) neither statements.
Q2. Vernon Hurd is an analyst that is covering Oswald Technologies. Hurd does not have the privilege of knowing the firm’s exact target capital structure, but would like to determine whether or not the capital structure policies followed by Oswald’s management is maximizing the value of the firm. Which of the following approaches would be most useful to Hurd to determine whether management’s current capital structure policy is maximizing Oswald’s value?
A) Cross-sectional ratio analysis with firms that have similar business risk to Oswald.
B) Scenario analysis.
C) Dupont analysis.
Q3. Jeffery Pyle, a health care analyst for a major brokerage firm, is trying to determine how capital structure policy impacts the valuation of firms he covers. Which of the following factors is likely to be the least useful for his analysis?
A) Quality of corporate governance.
B) How often management uses internally generated capital versus raising new capital in the capital markets.
C) Differences in capital structure across firms in his coverage universe. |