A Firm Is Analyzing Two Different Capital Structures for Financing

question 21

Multiple Choice

A firm is analyzing two different capital structures for financing a new asset that will cost $100,000.The effects of the two structures on the firm's balance sheet are described below.
Plan A: finance with 50% debt
New asset $100,000 Debt $50,000
Common equity $50,000
Total $100,000
Plan B: finance with 70% debt
New asset $100,000 Debt $70,000
Common equity $30,000
Total $100,000
Based on the information provided,we can conclude that

• A)if the firm chooses Plan A,then any changes in the firm's EBIT will lead to larger fluctuations in the firm's EPS than if the firm chooses Plan B.
• B)if the firm chooses Plan B,then any changes in the firm's EBIT will lead to larger fluctuations in the firm's EPS than if the firm chooses Plan A.
• C)if the firm chooses Plan A,then any changes in the firm's EBIT will lead to the same fluctuations in the firm's EPS as will occur if the firm chooses Plan B.
• D)if the firm chooses Plan B,then any changes in the firm's EBIT will lead to smaller fluctuations in the firm's EPS than if the firm chooses Plan A.

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Definitions:

Quintiles

Statistical values that divide a dataset into five equal parts, often used in economics to discuss income distribution.

Income

Money received, especially on a regular basis, for work or through investments.

Perfect Income Equality

A hypothetical situation where all individuals within an economy have the exact same income, eliminating income disparities.

Top Quintile

The highest fifth of a population in income or wealth distribution, representing those with the greatest share of income or wealth.