Financial leverage impacts the performance of the ﬁrm by:
A)increasing the volatility of the ﬁrm's EBIT.
B)decreasing the volatility of the ﬁrm's EBIT.
C)decreasing the volatility of the ﬁrm's net income.
D)increasing the volatility of the ﬁrm's net income
E)None of the above.

Question

Quizplus · Accepted Answer

Financial leverage refers to the use of debt financing to fund a portion of a company's operations or investments. This increases the fixed costs of the firm, such as interest payments, which can lead to higher volatility in the firm's net income. As the firm's earnings before interest and taxes (EBIT) fluctuate, the amount of interest paid on debt remains constant, amplifying the impact that changes in EBIT have on net income. Therefore, financial leverage increases the volatility of the firm's net income.

Financial Leverage Impacts the Performance of the ﬁRm By