Question

The default risk of a firm will be lower if the firm: A. Generates high and...

The default risk of a firm will be lower if the firm:

A. Generates high and stable cash flows relative to its financial obligations. B. Holds more liquid assets. C. All of the above.

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Answer #1

Default risk occurs when a firm is not able to make good or fulfill its debt obligations. Non payment of periodic interest on a debt instrument is an indication of default.

Answer:-

A. Generates high and stable cash flows relative to its financial obligations

If the firm is able to generate high & stable enough cash flows compared to its financial obligations it is able be better meet its periodic interest payments or liabilities. The interest coverage ratio = Earning before interest & taxes / Interest payments captures this ability to meet its financial obligations.

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