#1
Which of the following best describes financial leverage?
Using debt to amplify returns for shareholders
ExplanationUtilizing borrowed funds to magnify profits for investors.
#2
What is a primary risk associated with financial leverage?
Market risk
ExplanationThe peril of adverse changes in market conditions affecting investments.
#3
How is the debt-to-equity ratio calculated?
Total debt / Total equity
ExplanationTotal liabilities divided by total shareholder equity.
#4
What effect does financial leverage have on the company's return on equity (ROE)?
Increases ROE
ExplanationElevates the return on shareholders' equity.
#5
Which of the following is a disadvantage of using high financial leverage?
Increased potential for bankruptcy
ExplanationEnhanced likelihood of insolvency due to excessive debt.
#6
What is the concept of operating leverage?
The relationship between fixed and variable costs
ExplanationThe correlation between fixed and variable expenses.
#7
What is the relationship between financial risk and return?
Higher financial risk may lead to higher or lower returns depending on the circumstances
ExplanationElevated financial risk can result in varying returns.
#8
What is the formula to calculate the debt-to-equity ratio?
Total debt / Total equity
ExplanationThe ratio of total liabilities to total shareholder equity.
#9
What is the breakeven point in financial leverage?
The point where the company covers all its fixed costs
ExplanationThe stage where total revenues equal total expenses.
#10
How does financial leverage affect the cost of capital for a company?
It increases the cost of equity but decreases the cost of debt
ExplanationRaises equity costs while reducing debt costs.
#11
What is the concept of degree of operating leverage (DOL)?
The sensitivity of operating income to changes in sales
ExplanationThe responsiveness of operating profit to sales fluctuations.
#12
What does the term 'degree of financial leverage (DFL)' measure?
The sensitivity of earnings per share (EPS) to changes in earnings before interest and taxes (EBIT)
ExplanationThe impact of EBIT changes on EPS.
#13
How does operating leverage impact a company's risk and return profile?
It increases risk and decreases return
ExplanationAugments risk while diminishing returns.
#14
What is the primary concern regarding high financial leverage during economic downturns?
Decreased debt servicing capacity
ExplanationReduced ability to repay debts during economic contractions.