Which of the following is a difference between debt and equity capital?
A) Debt capital does not require periodic payments, whereas equity capital requires period payments.
B) Debt capital requires a fixed rate of return, whereas equity capital requires returns in proportion to profits.
C) Debt capital does not provides a tax shield, whereas equity capital provides a tax shield.
D) Debt capital affects operating leverage, whereas equity capital affects financial leverage.

Question

Quizplus · Accepted Answer

The main difference between debt and equity capital is the way in which they provide financing. Debt capital provides financing through borrowing and requires periodic payments with a fixed rate of return. On the other hand, equity capital does not involve borrowing, but rather provides financing by selling ownership or equity in the company, and returns are in proportion to profits. Option A is incorrect as debt capital does require periodic payments, whereas equity capital does not. Option C is incorrect as debt capital provides a tax shield through the interest paid on borrowings being tax deductible, whereas equity capital does not provide a tax shield. Option D is incorrect as debt capital affects financial leverage through the use of borrowed funds to finance operations, whereas equity capital affects operating leverage as it has a larger impact on fixed costs.

Which of the Following Is a Difference Between Debt and Equity