Question

Higher debt-equity ratio results in

(a) lower financial risk

(b) higher degree of operating risk

(c) higher degree of financial risk

(d) higher EPS

Answer 1

(c) Higher debt- equity ratio refers to a situation where the proportion of debt in total capital is higher. This implies higher degree of financial risk. This is because in case of debt, it is obligatory for a business to make interest payments and the return of principal to the debtors. Thus, higher debt increases the financial risk for the business.