- CFA Exams
- CFA Level I Exam
- Study Session 13. Equity Investments (2)
- Reading 39. Overview of Equity Securities
- Subject 6. Equity Securities and Company Value
CFA Practice Question
If a company issues debt and then uses the proceeds to repurchase some of its outstanding shares, its ROE will likely ______ (keeping other things constant).
A. decrease
B. remain the same
C. increase
Explanation: This will increase the company's leverage and make its equity riskier.
User Contributed Comments 5
| User | Comment |
|---|---|
| janmilly1 | Why riskier? ROE = ni/ebt * ebt/ebit * ebit/rev * rev/assets * assets/equity. Which of these variables will grow? |
| birdperson | jan -- you buy back shares --> equity goes down --> return/equity goes up. |
| Lambo83 | It should stay the same. ROE = ROA x Financial Leverage: ROE = (NI/Assets) x (Assets/Equity). More debt increases assets so ROA declines. More debt reduces equity and increases assets so Financial Leverage increases. Therefore the effects of ROE could go up or down. Answer B is correct I'm sure |
| Dabuya | @Lambo83: more debt and less equity does not increase assets, so ROA stays the same. The financial leverage increases so ROE will increase. |
| renataa | Birdperson and Dabuya are spot-on! |