In an EPS-EBI graphical relationship, the debt ray and equity cross. At this point the equity and debt are:
A) equivalent with respect to EPS but above and below this point equity is always superior.
B) at breakeven in EPS but above this point debt increases EPS via leverage and decreases EPS below this point.
C) equal but away from breakeven equity is better as fewer shares are outstanding.
D) at breakeven and MM Proposition II states that debt is the better choice.
E) at breakeven and debt is the better choice below breakeven because small payments can be made.

Question

Quizplus · Accepted Answer

At the point where the debt ray and equity cross, the EPS is at breakeven. Above this point, equity is always superior because as EPS increases, the value of equity also increases. Below this point, debt increases EPS via leverage and decreases EPS. Therefore, the best choice depends on the circumstances, but if the company is currently operating below breakeven, debt may be the better choice to increase EPS.

In an EPS-EBI Graphical Relationship, the Debt Ray and Equity