Module 7: True (T) or False (F) Questions
Last updated: 08/01/2026 17:29
The questions are based on or inspired by the following references:
- Berk & DeMarzo, Corporate Finance, 5th ed. (2020)
- Brealey & Myers, Principles of Corporate Finance, 13th ed. (2020)
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⚠️ These exercises are powered by AI-assisted technologies and may contain occasional formatting or logic errors. Please report any issues you encounter so I can improve the experience.
📙 Part 2 (Midterm to Final)
| Module | Chapter |
|---|---|
| 7 | ch14 |
Mark T (True) or F (False) in each of the following sentences.
This is TRUE. In perfect markets, financing is a zero‑NPV re-packaging of risk (conservation of value).
This is FALSE. Equity with no debt is unlevered equity.
This is TRUE. Leverage magnifies both expected EPS/ROE and their volatility (equity becomes riskier).
This is TRUE. By MM II, higher D/E increases the required return on equity.
This is TRUE in perfect markets where issuance/repurchase is costless.
This is TRUE. Firm value depends on asset cash flows, not the financing mix.
This is FALSE. Net debt = debt minus cash and risk‑free holdings.
This is TRUE. In practice, you seek to maximize firm value; in perfect markets capital structure doesn’t change it.
This is FALSE. Those proportions define capital structure, not investment policy.
This is TRUE. As D/E rises, equity risk and its risk premium rise (MM II).
This is TRUE. Leverage amplifies equity returns and risk; unlevered means financed only with equity.
This is TRUE. The Law of One Price underlies MM Proposition I: identical cash flows imply identical values.
This is TRUE. Debt typically has a lower required return because it is less risky than equity.
This is TRUE. Bankruptcy risk is irrelevant if bankruptcy is costless in perfect markets.
This is FALSE. MM II predicts the opposite — cost of equity increases with leverage.
This is TRUE. One of MM’s key assumptions is equal access to borrowing/lending at the same rate.
This is FALSE. Under MM I, WACC is independent of capital structure.
This is TRUE. Perfect markets assume frictionless trading and zero issuance costs.
This is TRUE. Financing and investment decisions are separate under MM irrelevance.
This is FALSE. Perfect markets assume no asymmetric information between investors and managers.
This is TRUE. Perfect capital markets assume no transaction or rebalancing costs.
This is FALSE. MM I shows no optimal structure exists in perfect markets.
This is TRUE. Firm value depends only on asset cash flows, not financing.
This is TRUE. Financing and investment are independent under MM irrelevance.
This is FALSE. Perfect markets assume no taxes or bankruptcy costs.
This is TRUE. MM assumes away agency conflicts and other frictions.
This is TRUE. Leverage increases equity risk so WACC remains constant.
This is FALSE. In perfect markets, WACC stays constant regardless of leverage.
This is TRUE. Equity risk changes with leverage, but total firm value does not.
This is TRUE. Equal access is part of the perfect capital market assumptions.
This is TRUE. MM Proposition I states that firm value is independent of leverage in perfect markets.
This is FALSE. Adding debt does not change total firm value under MM I.
This is TRUE. MM I holds only under those perfect market conditions.
This is FALSE. Tax shields do not exist in a world without taxes.
This is TRUE. Investors can use homemade leverage to achieve the same payoffs.
This is TRUE. Financing and investment are separate decisions under MM irrelevance.
This is FALSE. Perfect markets assume no bankruptcy costs or frictions.
This is TRUE. Symmetric information is a core MM assumption.
This is TRUE. Rational pricing ensures fair valuation based on risk-return trade-offs.
This is FALSE. In perfect markets, cost of debt is constant; cost of equity rises with leverage.
This is TRUE. Debt only changes the distribution of risk and return, not total value.
This is FALSE. In perfect markets, debt and equity choices are irrelevant to value.
This is TRUE. Investors can borrow or lend personally to match desired leverage.
This is TRUE. Homemade leverage means investors can reverse firm leverage decisions.
This is FALSE. Even if debt is cheaper, WACC remains constant under MM I.
This is TRUE. MM assumes away agency conflicts entirely.
This is TRUE. Leverage shifts risk and return but not total firm value.
This is FALSE. Firm value remains constant with leverage under MM II.
This is TRUE. Higher leverage increases equity risk and required return.
This is TRUE. Total cash flows depend only on firm assets, not financing choice.
This is TRUE. Leverage amplifies equity volatility while total firm risk is constant.
This is FALSE. Higher leverage raises equity risk, not lowers it.
This is TRUE. Under MM, identical cash flows imply identical firm values.
This is FALSE. In perfect markets, repackaging risk cannot reduce total cost of capital.
This is TRUE. Free cash flows’ PV is determined by assets, not financing choices.
This is TRUE. MM II shows a linear relationship between leverage and equity cost of capital.
This is FALSE. In perfect markets, WACC remains constant regardless of leverage.
This is TRUE. Re = 12% + (1)(12%-6%) = 18%.
This is TRUE. MM I focuses on the value of the firm’s assets, not its financing mix.
This is FALSE. It requires that investors borrow at the same rate as the firm.
This is TRUE. Re = 14% + 0.5*(14%-6%) = 18%.
This is FALSE. Leverage changes capital structure, not total firm value.
This is TRUE. Risk is simply redistributed across investors.
This is TRUE. With no leverage, WACC = Ru = Re.
This is FALSE. Even with risk aversion, MM irrelevance holds under perfect market assumptions.
This is TRUE. Equity holders face higher volatility because debt payments are fixed.
This is TRUE. Under MM Proposition I in perfect markets, leverage does not affect the firm’s total value.
This is FALSE. In perfect markets without taxes, the WACC remains constant regardless of leverage, as the higher cost of equity offsets the cheaper cost of debt.
This is TRUE. In perfect markets, leverage does not change WACC.
This is FALSE. Re rises as leverage rises because equity becomes riskier.
This is TRUE. Applying MM II: Re = Ru + (D/E)(Ru − Rd).
This is TRUE. Arbitrage ensures firms with identical cash flows must have identical values.
This is FALSE. Homemade leverage allows investors to replicate any leverage level.
This is TRUE. Financing choices do not alter total firm cash flow.
This is TRUE. Equity becomes riskier, but firm value remains constant.
This is FALSE. In perfect markets, cheaper debt does not increase total value (MM I).
This is TRUE. Higher D/E magnifies the effect of firm performance on equity returns.
This is FALSE. MM II explicitly states that Re increases with D/E.
This is TRUE. βe = βu + (D/E)(βu−βd) = 0.8 + 1*(0.8−0)=1.6.
This is TRUE. βu captures business risk only.
This is TRUE. Ru = 3% + 1.2×6% = 10.2%.
This is TRUE. In perfect markets, higher leverage raises equity risk, so the cost of equity increases linearly with D/E, while WACC remains constant.
This is TRUE. Arbitrage ensures that in perfect markets, firm value depends only on cash flows and not on the mix of debt and equity.
This is TRUE. WACC = Ra = expected return on firm assets under MM assumptions.
This is FALSE. More leverage can increase default risk and debt beta.
This is TRUE. Homemade leverage allows investors to replicate or offset firm leverage.
This is FALSE. Capital structure changes do not affect firm value under MM I.
This is TRUE. MM II implies Re − Rf = (1 + D/E)(Ru − Rf) when Rd = Rf.
This is FALSE. Higher leverage increases βe because equity becomes riskier.
This is TRUE. Applying MM II formula Re = Ru + (D/E)(Ru−Rd).
This is FALSE. That effect exists only with taxes; MM I assumes no taxes.
This is TRUE. Constant WACC implies inverse adjustment of component costs.
This is TRUE. It means financial transactions only redistribute risk and return without creating value.
This is FALSE. The premium depends on D/E and rises with leverage.
This is TRUE. As leverage increases, the higher cost of equity exactly offsets the cheaper cost of debt, leaving WACC unchanged.
This is TRUE. MM I implies that financing does not change total firm value.
This is FALSE. Financing affects distribution, not the total free cash flow.
This is TRUE. WACC equals Ra = Ru under MM assumptions.
This is TRUE. Combining both replicates unlevered cash flows.
This is FALSE. Total risk stays constant; leverage just reallocates it between investors.
Group 1 of 10