Financial leverage increases a firm's ROE and EPS under which of the following circumstances?
A)ROCE = cost of debt
B)ROCE after tax cost of debt
C)ROCE
D)ROCE = cost of equity

Question

Financial leverage increases a firm's ROE and EPS under which of the following circumstances?
A)ROCE = cost of debt
B)ROCE > after tax cost of debt
C)ROCE
D)ROCE = cost of equity

Quizplus · Accepted Answer

Financial leverage increases a firm's ROE and EPS when the return on capital employed (ROCE) is greater than the after-tax cost of debt. This is because the firm is able to earn a higher return on its assets than the cost of borrowed funds, resulting in a higher ROE and EPS for shareholders. Choice A is incorrect because ROCE being equal to the cost of debt does not create a situation where financial leverage increases ROE and EPS. Choice C is incomplete as there is no comparison provided for the cost of debt, and Choice D is incorrect because ROCE being equal to the cost of equity does not create a situation where financial leverage increases ROE and EPS.

Financial Leverage Increases a Firm's ROE and EPS Under Which