Return on equity increases when the expected rate of return from new assets is higher than the rate of interest expense on the debt financing.

Question

Quizplus · Accepted Answer

This is because the return on equity is calculated as net income divided by total equity, and if the expected rate of return from new assets is higher, then the net income will increase. However, if the interest expense on the debt financing is higher than the expected rate of return, then net income will decrease, leading to a lower return on equity.

Return on Equity Increases When the Expected Rate of Return