Question 1

Break-even analysis ignores fixed costs because fixed costs do not change.

Accepted Answer

Break-even analysis does take into account fixed costs as they are an important factor in determining the level of sales needed to cover all costs and break even.

Question 2

A high degree of variability in a firm's earnings before interest and taxes refers to
A) business risk.
B) financial risk.
C) financial leverage.
D) operating leverage.

Accepted Answer

Business risk refers to the variability in a firm's earnings before interest and taxes (EBIT) due to its operational environment. This includes factors like demand for the firm's products, input costs, and competition, which can all affect earnings independently of how the firm is financed.

Question 3

Variation in a company's income stream results from its choice of business line,its choice of an operating cost structure,and its choice of a capital structure.

Accepted Answer

A company's income stream can vary depending on the types of business lines it operates in, the level of operating costs it incurs, and the composition of its capital structure, which includes factors such as debt-to-equity ratios and interest rates. These choices can impact the amount and stability of a company's revenue and profits.

Question 4

As the volume of production increases the variable cost-per unit of the product decreases.

Accepted Answer

Variable cost per unit remains constant regardless of the volume of production; it is the total variable cost that increases with the increase in production volume.

Question 5

A decrease in the level of production results in decreased fixed cost per unit.

Accepted Answer

Fixed costs do not change with a decrease in production, so the fixed cost per unit increases.

Question 6

Companies that sell basic necessities face the highest levels of business risk because consumers will price shop aggressively for items they purchase on a regular basis.

Accepted Answer

Companies selling basic necessities often face lower levels of business risk because the demand for their products is relatively stable and inelastic, meaning consumers will continue to purchase these items regardless of price changes.

Question 7

The four basic determinants of business risk include all of the following except:
A) the stability of the domestic economy.
B) the level of fixed cost used in the company's production process.
C) sensitivity to the business cycle.
D) competitive pressures in the firm's industry.

Accepted Answer

The level of fixed cost used in the company's production process is related to financial risk, not business risk. Business risk is more about external factors like economic stability, business cycle sensitivity, and competitive pressures.

Question 8

The break-even quantity of output is that quantity of output,in units,that results in an EBIT equal to zero.

Accepted Answer

This statement is true as the break-even point is the level of production at which total revenue equals total cost, and therefore, the EBIT is zero.

Question 9

Private equity funds tend to focus their investments in situations where promised returns are very high and the need for funds is brief.

Accepted Answer

Private equity funds typically invest in companies or projects with high growth potential and are often seeking to exit their investment within a few years with a significant return on investment. Therefore, they tend to focus on situations where promised returns are very high and the need for funds is brief.

Question 10

Sales of consumer durable goods,such as appliances,are more sensitive to swings in the business cycle,and therefore companies in these industries face a higher level of operating risk.

Accepted Answer

The answer of Sales of consumer durable goods,such as appliances,are...

Question 11

A key tool for evaluating business risk is break-even analysis.

Accepted Answer

The answer of A key tool for evaluating business risk...

Question 12

Corporations utilize external financing either because they do not have sufficient earnings to reinvest or they want to rebalance their capital structures.

Accepted Answer

Corporations may utilize external financing if they do not have sufficient earnings to fund their investments or if they want to adjust their capital structure. This may involve issuing debt or equity securities to investors or taking out loans from banks or other financial institutions.

Question 13

As production levels increase,fixed costs stay the same in total,but decrease on a per unit basis.

Accepted Answer

This is because fixed costs, by definition, are costs that do not vary with changes in production levels. Therefore, as production levels increase, the fixed costs can be spread over a larger number of units, resulting in a lower fixed cost per unit.

Question 14

The three major components responsible for variation in a company's income stream are business risk,operating risk,and financial risk.

Accepted Answer

Business risk is the risk associated with the industry in which the company operates, operating risk is the risk associated with the company's operations, and financial risk is the risk associated with the company's use of debt and other forms of financing. These three risks are the major components responsible for variation in a company's income stream.

Question 15

Break-even analysis is a short-term concept because,in the long run,all costs are variable.

Accepted Answer

The answer of Break-even analysis is a short-term concept because,in...

Question 16

Business risk refers to the relative dispersion of a firm's earnings before interest and taxes.

Accepted Answer

Business risk is the variability or uncertainty of a firm's earnings before interest and taxes (EBIT). It is a measure of the potential for a company to experience financial losses due to factors such as changing economic conditions, increased competition, or other external factors.

Question 17

Business risk refers to
A) the risk associated with financing a firm with debt.
B) the variability of a firm's expected earnings before interest and taxes.
C) the uncertainty associated with a firm's CAPM.
D) the variability of a firm's stock price.

Accepted Answer

Business risk refers to the variability of a firm's expected earnings before interest and taxes. It is the risk related to a company's operating income and arises due to factors like competition, changes in consumer demand, technological advancements, and regulatory changes, which can impact a firm's ability to generate revenue and profits. Business risk is not related to financing decisions or stock price variability. There is no direct association of business risk with a firm's CAPM but it can affect the systematic risk component of the CAPM.

Question 18

Fixed costs are called indirect costs while variable costs are called direct costs.

Accepted Answer

The answer of Fixed costs are called indirect costs while...

Question 19

If sales double,the break-even model assumes that total variable costs will double.

Accepted Answer

In the break-even model, total variable costs are directly proportional to sales volume. Therefore, if sales double, total variable costs are also expected to double. This is because variable costs increase or decrease in proportion to sales volume.

Question 20

Business risk refers to the relative dispersion (variability)of a company's net income.

Accepted Answer

Business risk actually refers to the potential that a company will have lower than anticipated profits or experience a loss rather than making a profit, due to uncertainties in its environment, not just the variability of its net income.

Quiz 12: Determining the Financing Mix