Financial leverage occurs because of the existence of fixed financial costs, which include _____.
A)costs associated with production
B)preferred dividends
C)common stock dividends
D)depreciation expenses
E)accruals

Question

Financial leverage occurs because of the existence of fixed financial costs, which include _____. 
A)costs associated with production
B)preferred dividends
C)common stock dividends
D)depreciation expenses
E)accruals

Quizplus · Accepted Answer

Financial leverage is the use of debt financing to increase a company's return on equity. It occurs because of the presence of fixed financial costs, such as preferred dividends, that do not change with changes in sales, causing the company's net income to fluctuate more dramatically. Choice A is incorrect because variable, not fixed, costs are associated with production. Choice C is incorrect because common stock dividends are not fixed costs. Choice D is incorrect because depreciation expenses are non-cash, and do not directly affect net income. Choice E is incorrect because accruals are not fixed costs, but rather represent expenses that have been incurred but not yet paid.

Financial Leverage Occurs Because of the Existence of Fixed Financial