Increased use of debt, is likely to ________ of the firm provided that the cost of equity remains unaffected.
Increased use of debt, is likely to ________ of the firm provided that the cost of equity remains unaffected.
Solution
✅ Correct Option: 2
Debt is a cheaper source of finance than equity because lenders bear lower risk and interest is tax-deductible. Therefore, if the cost of equity remains unaffected, increased use of debt lowers the weighted average (overall) cost of capital of the firm and can increase its value.
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