Assume a Firm Can Either Hold Cash Paying No Interest

question 80

Multiple Choice

Assume a firm can either hold cash paying no interest or invest in marketable securities.Which one of the following might induce the manager to hold higher cash balances today?

• A) The cost of borrowing is high relative to interest rates on marketable securities.
• B) Future cash flows are relatively predictable.
• C) The cost of cash balances is relatively high.
• D) Bank interest rates are expected to decrease.

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Definitions:

Capital Structure

The mix of debt and equity financing a company uses to fund its operations and growth.

M&M Proposition II

Modigliani and Miller's Proposition II states that a company's cost of equity increases as it increases its leverage due to the risk premium on equity.

Debt-Equity Ratio

A financial ratio that measures the relative proportion of shareholders' equity and debt used to finance a company's assets.

Financial Risk

The chance of incurring a loss in capital in an investment or business operation.