Holding all other factors constant, a firm that is subject to a greater level of business risk should employ less financial leverage than an otherwise equivalent firm that is subject to a lesser level of business risk. True False

The correct answer is True.

Explanation:

Financial leverage is the use of debt to acquire assets that generate more assets. It is a concept used in operations where the investment that is made is greater than the money that is actually available, so that with a lower amount of money a greater possibility of profit or loss can be achieved. Therefore, it implies a higher risk.

The main instrument for leverage is debt, which allows you to invest more money than is available thanks to what has been borrowed. But you can also achieve financial leverage through many other financial instruments, such as derivatives, futures or CFDs.

We can find three types of financial leverage:

True

Explanation:

In theory this statement is definitely true, but it is also an example of how theory and reality rarely meet.

A company that is doing great, like Apple, Google or Microsoft, does not need to borrow money since they have tons of it. They could even buy small countries with their money. Not even the COVID will stop them, they have so much cash they can operate without any problems. Who needs to borrow money? Shale oil companies that are about to go bankrupt, clothing retailers and other companies that have been hit by the current crisis. If you are making millions per day you do not need to borrow money. You need to borrow money for two reasons:

In conclusion, even though economic theory states that companies that have a high level of business risk should not have high levels of financial leverage, they are the ones that actually borrow money in the real world.

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