Financial Leverage and APV Model Quiz
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Questions and Answers

  1. Financial leverage refers to

  • The firm’s ability to secure competitive prices for raw materials to use in manufacturing products
  • The excess cash flow available to a firm for future expansion activities
  • The use of debt in a firm’s capital structure (correct)
  • The raw value of firm’s core operations that can be used for future capital investment

    • Which statement is not correct about the Adjusted Present Value (APV) model?

  • To understand the relationship between value and leverage is necessary
  • Estimates the value of a firm’s core operations in two parts, with and without leverage
  • Discounts the free cash flow stream at the weighted-average cost of capital
  • Captures the value created by leverage better than the discounted free cash flow model (correct)

    • Assume that an all-equity financed company with cost of equity of 10% generates unlevered FCFs of 13 million in perpetuity. It plans to take on perpetual debt of $100m with interest rate of 5%. Tax rate is 20%. What is the value of this company after the change in capital structure?

  • $130m
  • $150m (correct)
  • $13m
  • $135m

    • Why is it not recommended to always use Discounted Cash Flow (DCF) over Adjusted Present Value (APV)?

    <p>DCF uses a single discount rate, unlike APV</p> Signup and view all the answers

    Which factor is crucial for an analyst to understand in relation to the Adjusted Present Value model (APV)?

    <p>The relationship between value and leverage</p> Signup and view all the answers

    In a scenario where a company has a high cost of equity and low debt capacity, which valuation model would be more suitable to use?

    <p>Adjusted Present Value (APV)</p> Signup and view all the answers

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