Assume a portion of a firm's long-term funds includes either debt or preferred stock.Which of the following statements is correct?
A) The firm must possess operating leverage,which means that a change in net income will result in a greater percentage change in earnings before interest and taxes (EBIT).
B) The firm has financial leverage,which means that a change in sales will result in a greater percentage change in EBIT.
C) The firm has financial leverage,which means that a change in EBIT will result in a greater percentage change in earnings per share (EPS).
D) The firm doesn't have leverage,because leverage is created through the use of common equity financing only.
E) None of the above is a correct answer.

Question

Quizplus · Accepted Answer

Financial leverage occurs when a firm uses debt or preferred stock in its capital structure. This leverage amplifies the effects of changes in EBIT on the firm's EPS, because fixed financing costs do not change with EBIT.

Assume a Portion of a Firm's Long-Term Funds Includes Either