📘 IAS Prelims 2025 — GS-I Q.7 | Classroom Explanation

📌 Question

Q.7) Consider the following statements:

Statement I: As regards returns from an investment in a company, generally, bondholders are considered to be relatively at lower risk than stockholders.
Statement II: Bondholders are lenders to a company whereas stockholders are its owners.
Statement III: For repayment purpose, bondholders are prioritized over stockholders by a company.

Which one of the following is correct in respect of the above statements?

(a) Both Statement II and Statement III are correct and both of them explain Statement I
(b) Both Statement I and Statement II are correct and Statement I explains Statement II
(c) Only one of the Statements II and III is correct and that explains Statement I
(d) Neither Statement II nor Statement III is correct

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✅ Correct Answer: (a)

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🧑‍🏫 Classroom Explanation

This question tests foundational corporate finance logic involving risk, ownership, and repayment hierarchy—a recurring UPSC theme.

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🔍 Statement-wise Analysis

✅ Statement I: Correct

• Bondholders generally face lower risk compared to stockholders.

• Reason:

• Bonds offer fixed interest payments
• Returns are predictable
• Principal repayment has priority

➡️ Hence, Statement I is correct.

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✅ Statement II: Correct

• Bondholders:

• Are creditors / lenders
• Provide debt capital
• Do not participate in ownership or voting

• Stockholders:

• Are owners of the company
• Bear business risk
• Returns depend on company performance

➡️ Hence, Statement II is correct.

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✅ Statement III: Correct

• In case of:

• Liquidation
• Bankruptcy
• Winding up

• Repayment hierarchy:

1. Secured creditors
2. Unsecured creditors (bondholders)
3. Preference shareholders
4. Equity shareholders

• Stockholders receive returns only after all liabilities are settled.

➡️ Hence, Statement III is correct.

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🧮 Logical Linking (Assertion–Reason Test)

• Why are bondholders at lower risk?
→ Because they are lenders, not owners
→ And because they are paid before shareholders

✔️ Statement II explains the nature of bondholders
✔️ Statement III explains the repayment priority

➡️ Both II and III jointly explain Statement I

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🎯 Final Evaluation

✔️ Statement I: Correct
✔️ Statement II: Correct
✔️ Statement III: Correct
✔️ II & III explain I

➡️ Correct answer: (a)

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🔗 Bridge Points (High Exam Shelf-Life)

• Expect similar questions on:

• Equity vs debt instruments
• Preference shares vs bonds
• Risk–return trade-off
• Capital structure (debt-heavy vs equity-heavy firms)

• Frequently linked with:

• Corporate insolvency (IBC)
• Financial markets
• Banking & NBFC lending risks

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📍 GS Mapping

• GS Paper II
• Subject: Indian Economy / Financial Markets
• Theme: Investment instruments, risk hierarchy
• Question Nature: Pure static concept (high repeatability)

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