Although the use of debt provides tax benefits to the firm, debt also puts pressure on the firm to:
I.meet interest and principal payments, which if not met can put the company into financial distress;
II.make dividend payments, which if not met can put the company into financial distress;
III.meet both interest and dividend payments, which when met increase the firm cash flow;
IV.meet increased tax payments, thereby increasing firm value

Question

Quizplus · Accepted Answer

Neither dividend payments nor increased tax payments are directly affected by the use of debt. Only choices I and II are correct, as they highlight the potential financial distress that may come from taking on too much debt.

Although the Use of Debt Provides Tax Benefits to the Firm