In an EPS-EBI graphical relationship,the slope of the debt ray is steeper than the equity ray. The debt ray has a lower intercept because:
A) more shares are outstanding for the same level of EBI.
B) the break-even point is higher with debt.
C) a fixed interest charge must be paid even at low earnings.
D) the amount of interest per share has only a positive effect on the intercept.
E) the higher the interest rate the greater the slopE.

Question

Quizplus · Accepted Answer

The debt ray has a lower intercept because a fixed interest charge must be paid even at low earnings. This means that the company must first pay the interest expense before distributing earnings to equity shareholders, resulting in a higher break-even point for the company. As a result, the slope of the debt ray is steeper than the equity ray. Choices A, B, D, and E are incorrect as they do not accurately explain why the debt ray has a lower intercept.

In an EPS-EBI Graphical Relationship,the Slope of the Debt Ray