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Basic Question 9 of 19
Which of the following would result in an increase in the debt-to-equity ratio? (Assume there are no flotation costs.)
B. A firm issues preferred stock and uses the proceeds to repurchase an equal amount of bonds.
C. A firm with positive additions to retained earnings uses the cash it generates to retire existing debt.
D. A firm uses excess cash to repurchase common stock in an amount equal to additions to retained earnings for the year.
E. A firm issues bonds and uses the proceeds to purchase short-term assets.
A. A firm issues common stock and uses the proceeds to repurchase an equal amount of preferred stock.
B. A firm issues preferred stock and uses the proceeds to repurchase an equal amount of bonds.
C. A firm with positive additions to retained earnings uses the cash it generates to retire existing debt.
D. A firm uses excess cash to repurchase common stock in an amount equal to additions to retained earnings for the year.
E. A firm issues bonds and uses the proceeds to purchase short-term assets.
User Contributed Comments 7
| User | Comment |
|---|---|
| morpheus918 | Why not D also? |
| tony1973 | D will cause the ratio unchanged: if a firm has additional retained earnings for the year, the debt-to-equity ratio will be decreased, other things equal. As the firm reduces the common stock by repurchasing stocks, the total amount of equity remains unchanged. |
| VenkatB | D) D/E ratio will remain same if the firm repurchases common stock. (the number of shares will decrease, but the total amount of equity will not be changed) |
| johntan1979 | For D, net is zero |
| fabsan | If D is false, can someone explain how does the firm write off the number of outstading shares. |
| Inaganti6 | Share buy backs are negative additions to number of outstanding shares almost like a contra account |
| MathLoser | If D was wrong. I'll sue Investopedia because of spreading false information. They claimed that share buyback will shrink the shareholder's equity. ROE will increase. That's mean D/E ratio will increase too. Sorry guys but D/E won't stay the same in a buyback. |
I used your notes and passed ... highly recommended!
Lauren
Learning Outcome Statements
explain factors affecting capital structure and the weighted-average cost of capital
CFA® 2024 Level I Curriculum, Volume 2, Module 6.