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Companies Heidee and Leaudy have the same sales, tax rate, interest rate on their debt, total assets, and basic earning power. Both companies have positive net incomes. Company Heidee has a higher debt ratio and, therefore, a higher interest expense. Which of the following statements is CORRECT? Explain your selection with at least 200 words.

a. Company Heidee has more net income.
b. Company Heidee pays less in taxes.
c. Company Heidee has a lower equity multiplier.
d. Company Heidee has a higher ROA.
e. Company Heidee has a higher times interest earned (TIE) ratio.

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anthougo

Answer:

All the statements are CORRECT about Heidee Company, except statement 'e'.

Explanation:

With the higher debt ratio and higher interest expense, Heidee Company will pay less in taxes, all other things equal.  Taxes are computed on the after-interest income. This lower tax expense will also translate to more net income for Heidee.  Certainly, based on its higher debt ratio than Leaudy, its equity multiplier will be higher.  It will also return more in assets than Leaudy based on the higher net income.

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