Unstable Ltd has decided to change its depreciation method from straight-line to reducing balance.As a result,its annual depreciation expense increases by $200 000.The company's income tax rate is 30 per cent.
-What is the effect on the debt-to-equity ratio?
A) It increases.
B) It decreases.
C) There is no effect.
D) It cannot be determined from the information provided.

Question

Quizplus · Accepted Answer

Changing the depreciation method from straight-line to reducing balance, which increases the annual depreciation expense, will reduce the company's net income. This reduction in net income decreases retained earnings, part of equity, leading to an increase in the debt-to-equity ratio as the equity component decreases while the debt remains constant.

Unstable Ltd Has Decided to Change Its Depreciation Method from Straight-Line