You are writing a comparison of an all-equity structure to a levered capital structure for a firm.It is accurate to state in this comparison that
A)earnings per share will always be higher in the all-equity structure.
B)firms will only select the levered structure when individual rates on borrowed funds are lower than corporate rates.
C)leverage lowers shareholders' returns in bad financial times.
D)the all-equity firm has a greater advantage the higher the firm's earnings before interest.
E)leverage improves shareholders' returns regardless of the firm's level of earnings.

Question

Quizplus · Accepted Answer

Leverage may increase returns when the firm's earnings are higher, but it also increases the risk of financial distress and bankruptcy. In bad financial times, the firm may be unable to meet its debt obligations, and this could result in lower returns, or even losses for shareholders. The other choices are not accurate; for example, earnings per share may be higher or lower depending on the level of earnings and the cost of capital, and firms may select a levered structure for many reasons, not just because individual rates on borrowed funds are lower.

You Are Writing a Comparison of an All-Equity Structure to a Levered