The company you are analyzing has determined it is under-levered, and intends to
ID: 2738212 • Letter: T
Question
The company you are analyzing has determined it is under-levered, and intends to increase the percentage of debt relative to total capitalization. Even when using the objective of value maximization, which of the following are legitimate arguments for choosing not to use all of the company’s debt capacity?
Select one:
a. Restricted options – new debt may bring covenants that restrict what the firm can do in the future.
b. Flexibility – the company may wish to save excess borrowing capacity for future financing needs like acquisitions.
c. Closely held or private firms often place a greater emphasis on avoiding bankruptcy.
d. None of the above
e. All of the above
Explanation / Answer
1.Answer (E) All of the above (option D should not be there or question may be given wrong,please correct it)
Explanation : Yes all the three reasons given above under options A,B,C are viable reasons for not using excess debt capacity, amd they may be consistent with value maximization. We should put these reasons to the financial test.And also the primary fear of over levered firms is bankruptcy.