How Would a Company's Cost of Capital Calculated from Book

question 106

Multiple Choice

How would a company's cost of capital calculated from book values be affected if the company's bonds were selling for more than face value?

• A) The cost of capital would increase.
• B) The cost of capital would decrease.
• C) The cost of capital would not be affected.
• D) The effect depends on the bonds' coupon rate.

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Definitions:

Operating Leverage

An indicator of the extent to which increases in revenue lead to increases in operating profit, showing the level of fixed expenses within the financial framework of a business.

Fixed Costs

Expenses that do not change with the level of production or sales over a short period, such as rent, salaries, and insurance.

Forecasting Risk

The potential for future revenues or earnings to deviate from projected amounts due to variables that affect demand, supply, and pricing.

NPV Estimates

Calculations used to determine the Net Present Value of an investment, forecasting the difference between the present value of cash inflows and outflows.