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 break-even point is lower with debt.

Question

Quizplus · Accepted Answer

The lower intercept of the debt ray is due to the fact that a fixed interest charge must be paid even at low earnings. This means that the company must generate sufficient earnings to cover the interest payments before any earnings are available for equity holders. In contrast, equity holders only receive earnings after all other expenses, including interest payments, have been paid. Therefore, the debt ray has a higher break-even point, which results in a lower intercept compared to the equity ray.

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