Financial Leverage And Its Effect On Equity Essay

1098 Words Jun 3rd, 2016 null Page
The use of financial leverage can have a positive or negative impact the return on equity as a result of the bigger level risk. When a company’s return on equity rises the leverage increases stock uncertainty, increase its level of risk which in turn increases return. Conversely, if a company is financially over leverage a decline in return on equity could occur. Financial over leveraging means incurring a massive debt by borrowing funds at a lesser rate of interest and using the other funds in high risk investment outweigh the expected return, the value of a company’s equity could decrease as stockholders think is uncertain.
Common risk of leverage is when multiplies losses caused by the effect of solvency and involuntary leverage is typically caused by eroding equity value as opposed to the addition of more debt. When evaluating the riskiness of leverage, it is important to factor in the value of the company itself and its activities. Two main approaches for a corporation to increase capital to finance operation are: equity because it’s selling parts of the company to stockholder and borrowing money from creditors. For example, when an organization take on a debt it’s consider leveraged. Financial leverage refers to the total of debt a company has taken on to finance operation. Highly leverage corporation are those that have taken on somewhat high amounts of debt. Benefit of debt is the interest paid to creditors a tax -deductible like any other cost and debt financing…

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