Question

1. Which of the following statements regarding the cost of capital and its effect on capital structure and investment choices is correct?

A. All of these answers

B. Adding debt does not increase a company's interest rate.

C. Because of tax advantages it is cheaper to issue new equity than debt.

D. For an investment to be worthwhile, the expected return must be greater than the cost of capital.

Answer 1

Adding debt adds onto the overall interest burden on the company so this given Statement(B) is false .

Tax advantage is a feature which is associated with the debt as interest paid is tax deductible so it offers with the tax shield. So debt provides with tax advantage not equity.so option ( C ) is also false.

So option (D) is correct as expected return must be greater than cost of equity for an investment to be worthwhile as one needs to beat the cost of equity to make the required profits.