According to the signaling theory of capital structure,a firm with favorable prospects should raise new capital by issuing ____ and a firm with unfavorable prospects raise new capital by issuing ____.
A) debt;equity
B) equity;debt
C) debt;debt
D) equity;equity

Question

Quizplus · Accepted Answer

The signaling theory of capital structure suggests that firms with favorable prospects (i.e., those that are performing well or expect to perform well) are more likely to issue debt to finance their operations, as they can comfortably service the debt with their future earnings. On the other hand, firms with less favorable prospects are more likely to issue equity, as they may not be able to commit to regular debt payments and prefer not to increase their financial risk.

According to the Signaling Theory of Capital Structure,a Firm with Favorable