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Hi sir! As the standard answer doesn’t give us much explanation of the 3 other options except for the right one, I need your help to find out why they are incorrect please! Here is my guess:
The first answer: as it is short-term finance (normally the cost would be lower than long-term one), so the finance cost should decrease.
The fourth answer: as it is using short-term finance now, there will be more operating capital needed, so the overcapitalisation rish should increase.
Are these two explanation of mine is right? Please let me now! and in addition, I don’t quite understand the third answer (the one with interest rate) could you please explan it for me? Thank you so much!!
Your explanations are correct.
Short-term variable interest rate borrowing is risky because the interest rate keeps changing. Long-term borrowing is usually at fixed interest, so not interest rate risk.
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