TRUE or FALSE 1. The constant growth model does not work when the growth rate exceeds...

TRUE or FALSE

1. The constant growth model does not work when the growth rate exceeds the required return.

2. Operating leverage is related to the amount of debt a firm uses

3. In a world with taxes and financial distress costs, Modigliani and Miller find that debt use can increase firm value.

Solutions

Expert Solution

Question 1

TRUE

As per constant growth model for stock valuation, the growth rate remains constant over time and is less than the required return. This model only works when the required return exceeds the growth rate. So the given statement is TRUE.

Question 2

FALSE

It is Leverage which refer to the amount of debt a firm uses to finance assets. If a firm is highly leveraged, the firm uses more debt than equity. But Operating leverage is the ratio of fixed costs and variable costs that a company uses. A company with higher ratio of fixed costs to variable costs is said to have more operating leverage. So the given statement is FALSE.

Question 3

TRUE

The company can capitalize its requirements with debts when the cost of bankruptcy exceeds the value of the tax benefits. Thus, according to Modigliani and Miller, the increased debts, until a certain value, will the value of the company. Thus the given statement is TRUE.

jeff jeffy answered 1 year ago

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