Companies HD and LD have identical tax rates, total assets, and return on invested capital (ROIC), and their ROIC exceeds their after-tax cost of debt, (1-T) r_d.However, Company HD has a higher debt ratio and thus more interest expense than Company LD.Which of the following statements is CORRECT?

Question

Quizplus · Accepted Answer

CCompany HD, having a higher debt ratio, incurs more interest expense, which reduces its net income relative to its assets more than Company LD, leading to a lower Return on Assets (ROA). However, since both companies have the same Return on Invested Capital (ROIC) and identical tax rates and total assets, their ability to generate profit from their assets (ROA) before the impact of financing costs is the same, hence they have the same ROA before considering debt.

Companies HD and LD Have Identical Tax Rates, Total Assets