CFA® Level 1: Most Correct Statements

D

The optimal capital structure is the one that maximizes the price of the firm's stock, and minimizes the firm's WACC.

The correct answer to the question is D. All of these statements are false.

Let's break down each statement and explain why it is incorrect:

A. The optimal capital structure simultaneously maximizes EPS and minimizes the WACC. This statement is false. The optimal capital structure is not determined by maximizing earnings per share (EPS) or minimizing the weighted average cost of capital (WACC). The optimal capital structure is the one that minimizes the firm's overall cost of capital, which is achieved by balancing the costs and benefits of debt and equity financing. EPS maximization and WACC minimization are not the primary goals in determining the optimal capital structure.

B. As a rule, the optimal capital structure is found by determining the debt-equity mix that maximizes expected EPS. This statement is false. While EPS is an important financial metric, it is not the sole determinant of the optimal capital structure. Maximizing expected EPS does not necessarily lead to the optimal capital structure. The capital structure decision involves considering various factors, including the cost of capital, risk, cash flow requirements, and financial flexibility.

C. The optimal capital structure minimizes the cost of equity, which is a necessary condition for maximizing the stock price. This statement is false. While minimizing the cost of equity may positively impact a firm's stock price, it is not the sole determinant of the optimal capital structure. The optimal capital structure is a balance between the cost of debt and the cost of equity. It is influenced by factors such as market conditions, the firm's risk profile, and the availability of different sources of capital.

D. All of these statements are false. This statement is correct. None of the statements provided in the options are true. The optimal capital structure is a complex decision that requires considering multiple factors, and it cannot be determined by a single criterion such as EPS maximization or WACC minimization.

E. The optimal capital structure simultaneously minimizes the cost of debt, the cost of equity, and the WACC. This statement is also false. While minimizing the cost of debt, the cost of equity, and the WACC may be desirable, it is unlikely that a single capital structure would simultaneously achieve the minimum values for all three. The optimal capital structure is a trade-off between different sources of financing, and finding a balance that minimizes overall cost is the goal, rather than minimizing each cost individually.

In summary, the optimal capital structure is not determined by maximizing EPS or minimizing WACC alone. It involves considering various factors and striking a balance between the costs and benefits of debt and equity financing. None of the statements provided in the options accurately describe the concept of the optimal capital structure.