QUESTION 1(a) Which one of the following statements on capital structure theory is correct?

A. In the Traditional View, an optimal capital structure exists because interest on debt is tax allowable

B. If taxation is ignored, the weighted average cost of capital is constant in a perfect capital market

C. Business risk increases as gearing increases

D. Financial risk was ignored by Miller and Modigliani

E. Miller and Modigliani assumed that capital markets were imperfect

QUESTION 1(b) Which of the following is not a problem of using the CAPM in the investment appraisal process?

A. The proxy company's equity beta includes financial risk

B. Proxy companies often undertake a portfolio of business activities

C. The CAPM is a single-period model, but investment appraisal is multi-period.

D. The CAPM model relies on a number of assumptions

E. Proxy company information is not publicly available

QUESTION 1(c)A company has the choice of either buying a machine outright for 200,000 which it will scrap in three years time for nothing, but which will attract a 100% first year capital allowance or of leasing the machine for three years for an annual payment of 60,000 payable in advance at the start of each year. The company receives tax benefits and the first tax benefit, whether leasing or borrowing, occurs in year 1. The company can borrow at a pre-tax rate of 10% and corporation tax stands at 30%. Round up your answer to the nearest 100. Which of the following is true?

A. Leasing is beneficial by 78,800

B. Leasing is beneficial by 22,700

C. Leasing is beneficial by 17,500

D. Buying is beneficial by 22,700

E. Buying is beneficial by 24,600

QUESTION 1(d)Two companies, ABC plc and PQR plc, are in the same line of business. ABC plc is financed entirely by equity and its cost of equity is 18% cent. If we assume a world consistent with Miller and Modigliani's first paper on capital structure, what will be POR plc's cost of equity if it is financed 30% by a 7% bank loan and 70% by equity?

A. 22.7%

B. 20.4%

C. 18.0%

D. 16.5%

E. 12.5%

QUESTION 1(e) Which of the following statements about Markovitz's portfolio theory is not correct?

A. Portfolio theory ignores unsystematic risk

B. Portfolio theory can accommodate investors with different attitudes to risk

C. Portfolio theory accommodates the existence of risk free assets

D.Portfolio theory preceded Sharpe's capital asset pricing model

E. Portfolio theory is more appropriate for large institutional investors rather than for private investors