Financial Leverage

Extent to which a firm relies on debt.

In a capital structure: Debt financing

financial leverage.

Assets
Debt
Equity

Current (equity financed)

8 million
0
8 million

Proposed (debt financed)

8 million
4 million
4 million

0
0
8

4
1
4

$20
4 lac
10%

$20
2 lac
10%

D
E

Debt-Equity Ratio =
Share price
No of shares outstanding, n
Interest rate
Current capital structure
EBIT
NI

ROE =

EPS =

NI
E
NI
n

Recession
5 lac
0
5 lac

5 lac
8 million
5 lac
4 lac

= 6.25%

= $1.25

Expected
10 lac
0
10 lac

10 lac
8 million

= 12.5%

10 lac
$2.5
4 lac

Expansion
15 lac
0
15 lac

15 lac
8 million

= 18.75%

15 lac
$3.75
4 lac