Which one of the following statements is TRUE?
A) When lenders protect themselves from the risk of asset switching, the borrowing firms will be limited in the projects they can profitably undertake.
B) An agency relationship is when a principal works for an agent.
C) In an agency relationship, the agent delegates authority to the principal.
D) Firms borrowing money have greater flexibility to use that money when there are debt covenants.
E) When lenders protect themselves from the risk of asset switching by raising the interest rate, the firm's WACC can decrease.

Question

Quizplus · Accepted Answer

When lenders protect themselves from the risk of asset switching, they often require debt covenants that limit the borrowing firm's ability to undertake certain projects, such as investments in new assets or ventures. This is done to reduce the risk of the borrowing firm using the lender's money to invest in projects with higher returns, and then switching to a different lender when the project becomes profitable. Thus, option A is true, while options B, C, D, and E are not.

Which One of the Following Statements Is TRUE