Which risk could potentially hurt a firm's ability to pay interest or dividends?

The reasoning behind identifying business risk as the correct answer lies in its direct connection to a firm's operational performance and financial health. Business risk refers to the potential for a company's profits to fluctuate due to factors inherent to its operations, such as changes in consumer preferences, competition, regulatory changes, or economic downturns. When a firm's business is adversely affected, this can erode its revenue and profitability, making it more challenging for the company to meet its financial obligations, including paying interest on its debts and distributing dividends to shareholders.

Market risk, interest rate risk, and purchasing power risk, while significant, do not directly correlate with a firm's operational capacity to generate profits. Market risk pertains to fluctuations in the overall market that may affect the value of investments, interest rate risk relates to the impact of changing interest rates on borrowing costs and investment returns, and purchasing power risk concerns the potential loss of value in terms of purchasing power due to inflation. These risks can influence broader financial performance but do not specifically focus on the internal operational challenges that define business risk. Thus, business risk stands out as the most relevant factor in evaluating a firm's ability to sustain its interest and dividend payments.