1.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)   Changes in a firm’s company’s capital structure over time.

B)   Differences in capital structure across firms in his coverage universe.

C)   Quality of corporate governance.

D)   How often management uses internally generated capital versus raising new capital in the capital markets.

2.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)   Scenario analysis.

B)   Dupont analysis.

C)   Cross-sectional ratio analysis with firms that have similar business risk to Oswald.

D)   Credit analysis.

3. 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.

Should Sherman’s students agree or disagree with his statements?

A)          Disagree                               Disagree

B           Agree                                Agree

C)         Disagree                              Agree

D)          Agree                                    Disagree

1.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)   Changes in a firm’s company’s capital structure over time.

B)   Differences in capital structure across firms in his coverage universe.

C)   Quality of corporate governance.

D)   How often management uses internally generated capital versus raising new capital in the capital markets.

The correct answer was D)

The three main factors that a financial analyst must consider when evaluating how a firm’s capital structure impacts valuation are changes in the firm’s capital structure over time, differences in capital structure between competitors with similar business risk, and company specific factors such as quality of corporate governance that may impact agency costs.

2.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)   Scenario analysis.

B)   Dupont analysis.

C)   Cross-sectional ratio analysis with firms that have similar business risk to Oswald.

D)   Credit analysis.

The correct answer was A)

The topic review specifically mentions using scenario analysis to assess how changes in a firm’s debt ratio may impact the firm’s WACC and then evaluate what happens to a firm’s value if the company moves toward its optimal capital structure.

3. 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.

Should Sherman’s students agree or disagree with his statements?

A)          Disagree                               Disagree

B           Agree                                Agree

C)         Disagree                              Agree

D)          Agree                                    Disagree

The correct answer was C)

Sherman’s students should disagree with his first statement. Changes in capital structure for a firm over time is essential for evaluating whether or not management’s decisions have worked to improve the firm’s value. Sherman’s second statement is correct. Differences in capital structure could reflect differences in business risk, so the analyst should try to make comparisons based on similar business risk characteristics in order to have a true apples to apples comparison.