Question

Why is the following statement true?"Other things being the same, firms with relatively stable sales are able to carry relatively high debt ratios"

Answer 1

Stable sales provide stability to cash flows and profits. Stable sales leas to lesser variability or returns. Less variability leads to lesser amount of risk. Lesser risk leads to a lower cost of capital for debt as distress costs are reduced. hence the debtors are willing to lend at better terms. The company borrows more and mor eof debt because the debt is cheaper than equity and for a stable company it is even cheaper. This results in a high debt ratios.