Pro Corp. and Darths Inc. are two companies that are identical in every aspect except for the fact that Pro only uses equity financing, while Darths relies heavily on debt financing. Over the past year, the firms had identical earnings before interest and taxes. If net income for both firms is high, _____.
A) Pro would pay lower taxes than Darths
B) Darths would report a higher return-on-equity than Pro
C) Darths would report a lower return-on-equity than Pro
D) Pro would be required to pay no taxes, unlike Darths

Question

Quizplus · Accepted Answer

Darths Inc., with its heavy reliance on debt financing, benefits from the tax shield provided by interest payments, which can lead to a higher return-on-equity compared to Pro Corp., which uses only equity financing.

Pro Corp and Darths Inc