Assume you are reviewing a graph depicting earnings per share (EPS)on the vertical axis and earnings before interest (EBI)on the horizontal axis.Data points for both a levered and an unlevered firm are displayed.Given this,which statement accurately describes this graph?
A)The unlevered firm has a greater reaction to a change in EBI than does the levered firm.
B)The levered firm consistently has higher EPS than the unlevered firm.
C)Both the levered and unlevered firms have zero EPS when EBI is zero.
D)Debt becomes a greater disadvantage to a firm as EBI increases.
E)When earnings exceed the breakeven point,the levered firm has the higher EPS.

Question

Quizplus · Accepted Answer

The graph is depicting the relationship between EPS and EBI for both a levered and an unlevered firm. The fact that there are data points for both firms suggests that they are being compared. Option A is incorrect because there is no information to suggest that the unlevered firm has a greater reaction to a change in EBI. Option B is incorrect because the graph does not consistently show that the levered firm has higher EPS. Option C is incorrect because the graph does not show any data points at (0,0) indicating that both firms have zero EPS when EBI is zero. Option D is incorrect because there is no information to suggest that debt becomes a greater disadvantage to a firm as EBI increases. Option E is correct because the graph shows that the levered firm has higher EPS than the unlevered firm when earnings exceed the breakeven point.

Assume You Are Reviewing a Graph Depicting Earnings Per Share