CFA Practice Question

There are 120 practice questions for this study session.

CFA Practice Question

Which of the following would result in an increase in the debt-to-equity ratio? (Assume there are no flotation costs.)

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.
Correct Answer: E

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.
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