Lu Lu's Catering has a debt ratio equal to .3 and its competitor, Able's Bakery, has a debt ratio equal to .7. Determine the statement below that is correct.
A) Able's Bakery has a smaller percentage of its assets financed with liabilities as compared to Lu Lu's.
B) Higher financial leverage involves lower risk.
C) Able's Bakery's financial leverage is greater than Lu Lu's.
D) Able's Bakery's financial leverage is less than Lu Lu's.
E) Lu Lu's has a higher risk from its financial leverage.

Question

Quizplus · Accepted Answer

Financial leverage is the amount of debt a company uses to finance its assets. The debt ratio indicates the proportion of assets financed by debt. The higher the debt ratio, the higher the financial leverage, and the higher the risk of bankruptcy. Therefore, Able's Bakery's financial leverage is greater than Lu Lu's.

Lu Lu's Catering Has a Debt Ratio Equal to