Meaning of business risk, capital structure and financial risk.

Question

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Answer 1

Question

Chapter 16, Problem 1Q

a)

Summary Introduction

To discuss: Meaning of business risk, capital structure and financial risk.

a)

Expert Solution

Explanation of Solution

Capital structure is the combination of debt and equity. Through capital structure it is decided that how much leverage ratio has to be maintained and company decides which sources it will get money and how much volume.

Business risk refers possibility of occurrence of loss due to changes in government policy, taste and preferences of customers that will leads to affect the factors like sales volume, sale price and sales per unit.

Financial risk is the risk where various types of risks associated with this like default risk, in which company sold out item in credit to customer, if customer default in payment or increased the time limit of payment of his cash which ultimately increase the financial risk.

Financial risk might arise due to foreign investment wherever the possibility of risk is higher.

b)

Summary Introduction

To discuss: Meaning of operating, financial leverages and break-even point.

b)

Expert Solution

Explanation of Solution

Operating leverage: It is nothing the degree of change in operating income for percentage change in sales. It is nothing but the ratio of contribution to operating income.

Degree of operating leverage=Contribution marginOperating income

Financial leverage: It is nothing the degree of change in total debt to shareholder’s equity.

Degree of financial leverage=Total debtShareholder's equity

Break-even point: It is point where, company has no profit no loss. At break-even point all fixed costs are recovered. It is calculated by using the formula,

Break-even point=Fixed costContribution margin per unit

c)

Summary Introduction

To discuss: Reserve borrowing capacity.

c)

Expert Solution

Explanation of Solution

It is the capability that company maintains or reserve for future borrowings at the time of good investment arises. Banks are needed to keep cash for uncertain liability and likely the company maintains a reserve borrowing capability to satisfy sensible investment or uncertain liability arises.

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Students have asked these similar questions

Need the WACC % WACC and Optimal Capital Structure F. Pierce Products Inc. is considering changing its capital structure. F. Pierce currently has no debt and no preferred stock, but it would like to add some debt to take advantage of the tax shield. Its investment banker has indicated that the pre-tax cost of debt under various possible capital structures would be as follows: Market Debt-to-Value Ratio (wd) Market Equity-to-Value Ratio (ws) Market Debt-toEquity Ratio (D/S) Before-Tax Cost ofDebt (rd) 0.0 1.0 0.00 6.0 % 0.10 0.90 0.1111 6.4 0.20 0.80 0.2500 7.0 0.30 0.70 0.4286 8.2 0.40 0.60 0.6667 10.0 F. Pierce uses the CAPM to estimate its cost of common equity, rs, and at the time of the analaysis the risk-free rate is 5%, the market risk premium is 7%, and the company's tax rate is 25%. F. Pierce estimates that its beta now (which is "unlevered" because it currently has no debt) is 1.4. Based on this information, what…

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Answer 2

Question

Chapter 16, Problem 1Q

a)

Summary Introduction

To discuss: Meaning of business risk, capital structure and financial risk.

a)

Expert Solution

Explanation of Solution

Capital structure is the combination of debt and equity. Through capital structure it is decided that how much leverage ratio has to be maintained and company decides which sources it will get money and how much volume.

Business risk refers possibility of occurrence of loss due to changes in government policy, taste and preferences of customers that will leads to affect the factors like sales volume, sale price and sales per unit.

Financial risk is the risk where various types of risks associated with this like default risk, in which company sold out item in credit to customer, if customer default in payment or increased the time limit of payment of his cash which ultimately increase the financial risk.

Financial risk might arise due to foreign investment wherever the possibility of risk is higher.

b)

Summary Introduction

To discuss: Meaning of operating, financial leverages and break-even point.

b)

Expert Solution

Explanation of Solution

Operating leverage: It is nothing the degree of change in operating income for percentage change in sales. It is nothing but the ratio of contribution to operating income.

Degree of operating leverage=Contribution marginOperating income

Financial leverage: It is nothing the degree of change in total debt to shareholder’s equity.

Degree of financial leverage=Total debtShareholder's equity

Break-even point: It is point where, company has no profit no loss. At break-even point all fixed costs are recovered. It is calculated by using the formula,

Break-even point=Fixed costContribution margin per unit

c)

Summary Introduction

To discuss: Reserve borrowing capacity.

c)

Expert Solution

Explanation of Solution

It is the capability that company maintains or reserve for future borrowings at the time of good investment arises. Banks are needed to keep cash for uncertain liability and likely the company maintains a reserve borrowing capability to satisfy sensible investment or uncertain liability arises.

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Answer 3

Question

Chapter 16, Problem 1Q

a)

Summary Introduction

To discuss: Meaning of business risk, capital structure and financial risk.

a)

Expert Solution

Explanation of Solution

Capital structure is the combination of debt and equity. Through capital structure it is decided that how much leverage ratio has to be maintained and company decides which sources it will get money and how much volume.

Business risk refers possibility of occurrence of loss due to changes in government policy, taste and preferences of customers that will leads to affect the factors like sales volume, sale price and sales per unit.

Financial risk is the risk where various types of risks associated with this like default risk, in which company sold out item in credit to customer, if customer default in payment or increased the time limit of payment of his cash which ultimately increase the financial risk.

Financial risk might arise due to foreign investment wherever the possibility of risk is higher.

b)

Summary Introduction

To discuss: Meaning of operating, financial leverages and break-even point.

b)

Expert Solution

Explanation of Solution

Operating leverage: It is nothing the degree of change in operating income for percentage change in sales. It is nothing but the ratio of contribution to operating income.

Degree of operating leverage=Contribution marginOperating income

Financial leverage: It is nothing the degree of change in total debt to shareholder’s equity.

Degree of financial leverage=Total debtShareholder's equity

Break-even point: It is point where, company has no profit no loss. At break-even point all fixed costs are recovered. It is calculated by using the formula,

Break-even point=Fixed costContribution margin per unit

c)

Summary Introduction

To discuss: Reserve borrowing capacity.

c)

Expert Solution

Explanation of Solution

It is the capability that company maintains or reserve for future borrowings at the time of good investment arises. Banks are needed to keep cash for uncertain liability and likely the company maintains a reserve borrowing capability to satisfy sensible investment or uncertain liability arises.

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Answer 4

Question

Chapter 16, Problem 1Q

a)

Summary Introduction

To discuss: Meaning of business risk, capital structure and financial risk.

a)

Expert Solution

Explanation of Solution

Capital structure is the combination of debt and equity. Through capital structure it is decided that how much leverage ratio has to be maintained and company decides which sources it will get money and how much volume.

Business risk refers possibility of occurrence of loss due to changes in government policy, taste and preferences of customers that will leads to affect the factors like sales volume, sale price and sales per unit.

Financial risk is the risk where various types of risks associated with this like default risk, in which company sold out item in credit to customer, if customer default in payment or increased the time limit of payment of his cash which ultimately increase the financial risk.

Financial risk might arise due to foreign investment wherever the possibility of risk is higher.

b)

Summary Introduction

To discuss: Meaning of operating, financial leverages and break-even point.

b)

Expert Solution

Explanation of Solution

Operating leverage: It is nothing the degree of change in operating income for percentage change in sales. It is nothing but the ratio of contribution to operating income.

Degree of operating leverage=Contribution marginOperating income

Financial leverage: It is nothing the degree of change in total debt to shareholder’s equity.

Degree of financial leverage=Total debtShareholder's equity

Break-even point: It is point where, company has no profit no loss. At break-even point all fixed costs are recovered. It is calculated by using the formula,

Break-even point=Fixed costContribution margin per unit

c)

Summary Introduction

To discuss: Reserve borrowing capacity.

c)

Expert Solution

Explanation of Solution

It is the capability that company maintains or reserve for future borrowings at the time of good investment arises. Banks are needed to keep cash for uncertain liability and likely the company maintains a reserve borrowing capability to satisfy sensible investment or uncertain liability arises.

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Subscribe now to access step-by-step solutions to millions of textbook problems written by subject matter experts!

Answer 5

Chapter 16, Problem 1Q

a)

Summary Introduction

To discuss: Meaning of business risk, capital structure and financial risk.

a)

Expert Solution

Explanation of Solution

Capital structure is the combination of debt and equity. Through capital structure it is decided that how much leverage ratio has to be maintained and company decides which sources it will get money and how much volume.

Business risk refers possibility of occurrence of loss due to changes in government policy, taste and preferences of customers that will leads to affect the factors like sales volume, sale price and sales per unit.

Financial risk is the risk where various types of risks associated with this like default risk, in which company sold out item in credit to customer, if customer default in payment or increased the time limit of payment of his cash which ultimately increase the financial risk.

Financial risk might arise due to foreign investment wherever the possibility of risk is higher.

b)

Summary Introduction

To discuss: Meaning of operating, financial leverages and break-even point.

b)

Expert Solution

Explanation of Solution

Operating leverage: It is nothing the degree of change in operating income for percentage change in sales. It is nothing but the ratio of contribution to operating income.

Degree of operating leverage=Contribution marginOperating income

Financial leverage: It is nothing the degree of change in total debt to shareholder’s equity.

Degree of financial leverage=Total debtShareholder's equity

Break-even point: It is point where, company has no profit no loss. At break-even point all fixed costs are recovered. It is calculated by using the formula,

Break-even point=Fixed costContribution margin per unit

c)

Summary Introduction

To discuss: Reserve borrowing capacity.

c)

Expert Solution

Explanation of Solution

It is the capability that company maintains or reserve for future borrowings at the time of good investment arises. Banks are needed to keep cash for uncertain liability and likely the company maintains a reserve borrowing capability to satisfy sensible investment or uncertain liability arises.

Answer 6

Chapter 16, Problem 1Q

a)

Summary Introduction

To discuss: Meaning of business risk, capital structure and financial risk.

a)

Expert Solution

Explanation of Solution

Capital structure is the combination of debt and equity. Through capital structure it is decided that how much leverage ratio has to be maintained and company decides which sources it will get money and how much volume.

Business risk refers possibility of occurrence of loss due to changes in government policy, taste and preferences of customers that will leads to affect the factors like sales volume, sale price and sales per unit.

Financial risk is the risk where various types of risks associated with this like default risk, in which company sold out item in credit to customer, if customer default in payment or increased the time limit of payment of his cash which ultimately increase the financial risk.

Financial risk might arise due to foreign investment wherever the possibility of risk is higher.

Answer 7

Chapter 16, Problem 1Q

a)

Summary Introduction

To discuss: Meaning of business risk, capital structure and financial risk.

Answer 8

a)

Expert Solution

Explanation of Solution

Capital structure is the combination of debt and equity. Through capital structure it is decided that how much leverage ratio has to be maintained and company decides which sources it will get money and how much volume.

Business risk refers possibility of occurrence of loss due to changes in government policy, taste and preferences of customers that will leads to affect the factors like sales volume, sale price and sales per unit.

Financial risk is the risk where various types of risks associated with this like default risk, in which company sold out item in credit to customer, if customer default in payment or increased the time limit of payment of his cash which ultimately increase the financial risk.

Financial risk might arise due to foreign investment wherever the possibility of risk is higher.

Answer 9

a)

Expert Solution

Answer 10

a)

Expert Solution

Answer 11

Expert Solution

Answer 12

b)

Summary Introduction

To discuss: Meaning of operating, financial leverages and break-even point.

b)

Expert Solution

Explanation of Solution

Operating leverage: It is nothing the degree of change in operating income for percentage change in sales. It is nothing but the ratio of contribution to operating income.

Degree of operating leverage=Contribution marginOperating income

Financial leverage: It is nothing the degree of change in total debt to shareholder’s equity.

Degree of financial leverage=Total debtShareholder's equity

Break-even point: It is point where, company has no profit no loss. At break-even point all fixed costs are recovered. It is calculated by using the formula,

Break-even point=Fixed costContribution margin per unit

Answer 13

b)

Summary Introduction

To discuss: Meaning of operating, financial leverages and break-even point.

Answer 14

b)

Expert Solution

Explanation of Solution

Operating leverage: It is nothing the degree of change in operating income for percentage change in sales. It is nothing but the ratio of contribution to operating income.

Degree of operating leverage=Contribution marginOperating income

Financial leverage: It is nothing the degree of change in total debt to shareholder’s equity.

Degree of financial leverage=Total debtShareholder's equity

Break-even point: It is point where, company has no profit no loss. At break-even point all fixed costs are recovered. It is calculated by using the formula,

Break-even point=Fixed costContribution margin per unit

Answer 15

b)

Expert Solution

Answer 16

b)

Expert Solution

Answer 17

Expert Solution

Answer 18

c)

Summary Introduction

To discuss: Reserve borrowing capacity.

c)

Expert Solution

Explanation of Solution

It is the capability that company maintains or reserve for future borrowings at the time of good investment arises. Banks are needed to keep cash for uncertain liability and likely the company maintains a reserve borrowing capability to satisfy sensible investment or uncertain liability arises.

Answer 19

c)

Summary Introduction

To discuss: Reserve borrowing capacity.

Answer 20

c)

Expert Solution

Explanation of Solution

It is the capability that company maintains or reserve for future borrowings at the time of good investment arises. Banks are needed to keep cash for uncertain liability and likely the company maintains a reserve borrowing capability to satisfy sensible investment or uncertain liability arises.