A situation that arises when a firm's equity is close to worthless, and equity holders will prefer to invest in overly risky projects with a small chance of success rather than simply paying debt holders their regularly scheduled payments is known as a(n):

Question

Quizplus · Accepted Answer

This situation is known as an overinvestment problem, where equity holders prefer to invest in high-risk projects hoping for high returns rather than paying off existing debt, as the firm's equity value is nearly worthless, making conservative investments unattractive.

A Situation That Arises When a Firm's Equity Is Close