31 Lecture
MGT201
Midterm & Final Term Short Notes
Operating leverage and financial leverage , ROE, break even point and business risk
Operating leverage and financial leverage are two types of leverage that can impact a company's profitability and risk profile. Operating leverage refers to the use of fixed costs in a company's operations, while financial leverage refers to the
Important Mcq's
Midterm & Finalterm Prepration
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- What is operating leverage? a. The use of debt financing to fund a company's operations b. The use of fixed costs in a company's operations c. The amount of equity financing used to fund a company's operations d. The degree of risk associated with a company's operations
Answer: b. The use of fixed costs in a company's operations
- What is financial leverage? a. The use of fixed costs in a company's operations b. The use of debt financing to fund a company's operations c. The amount of equity financing used to fund a company's operations d. The degree of risk associated with a company's financial structure
Answer: b. The use of debt financing to fund a company's operations
- How does operating leverage impact a company's risk profile? a. It increases a company's risk profile b. It decreases a company's risk profile c. It has no impact on a company's risk profile d. It depends on the level of fixed costs
Answer: a. It increases a company's risk profile
- How does financial leverage impact a company's risk profile? a. It increases a company's risk profile b. It decreases a company's risk profile c. It has no impact on a company's risk profile d. It depends on the level of debt financing
Answer: a. It increases a company's risk profile
- What is the break-even point? a. The point at which a company's total revenue equals its total expenses b. The point at which a company's total revenue equals its variable expenses c. The point at which a company's total revenue equals its fixed expenses d. The point at which a company's total revenue equals its operating expenses
Answer: c. The point at which a company's total revenue equals its fixed expenses
- How is the break-even point calculated? a. By dividing total expenses by total revenue b. By dividing fixed expenses by the contribution margin per unit c. By dividing variable expenses by the contribution margin per unit d. By dividing operating expenses by total revenue
Answer: b. By dividing fixed expenses by the contribution margin per unit
- What is return on equity (ROE)? a. The amount of debt financing used to fund a company's operations b. The amount of equity financing used to fund a company's operations c. The amount of net income returned as a percentage of shareholders' equity d. The amount of net income returned as a percentage of total assets
Answer: c. The amount of net income returned as a percentage of shareholders' equity
- How can a company increase its ROE? a. By increasing sales revenue b. By reducing expenses c. By improving profit margins d. All of the above
Answer: d. All of the above
- What is business risk? a. The risk associated with a company's financial structure b. The risk associated with a company's operations c. The risk associated with a company's market position d. The risk associated with a company's competitors
Answer: b. The risk associated with a company's operations
- How can a company minimize business risk? a. By diversifying its operations b. By implementing effective risk management strategies c. By improving operational efficiency d. All of the above
Answer: d. All of the above
Subjective Short Notes
Midterm & Finalterm Prepration
Past papers included
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What is operating leverage and how does it affect a company's profitability? Answer: Operating leverage is a measure of how much a company's fixed costs contribute to its overall cost structure. A company with high operating leverage has a higher proportion of fixed costs, which means that a small change in sales can lead to a larger change in profits. This can work both ways, resulting in higher profits during good times and larger losses during bad times.
What is financial leverage and how does it affect a company's risk? Answer: Financial leverage refers to the use of borrowed funds to finance a company's operations. This can increase a company's return on equity (ROE) by magnifying the effect of its earnings on shareholders' equity. However, it also increases the company's financial risk, as it must make regular interest payments and repay principal on its debts.
How do you calculate the break-even point for a company? Answer: The break-even point is the level of sales at which a company's revenues equal its total costs. It can be calculated by dividing the company's fixed costs by its contribution margin, which is the difference between its sales revenue and variable costs.
How does a company's business risk affect its cost of capital? Answer: A company with higher business risk will typically have a higher cost of capital, as investors will demand a higher return to compensate for the increased risk. This is because the company's future earnings are less certain, which makes it riskier to invest in.
How does a company's use of leverage affect its return on equity (ROE)? Answer: A company's use of leverage can magnify its ROE by increasing the amount of profit that is attributable to shareholders' equity. However, it also increases the risk of the company's earnings, which can result in larger losses for shareholders.
What is the difference between operating leverage and financial leverage? Answer: Operating leverage refers to the use of fixed costs in a company's cost structure, while financial leverage refers to the use of borrowed funds to finance a company's operations. Both types of leverage can affect a company's profitability and risk.
How can a company reduce its business risk? Answer: A company can reduce its business risk by diversifying its operations, reducing its debt levels, or implementing risk management strategies such as hedging.
How does a company's break-even point affect its profitability? Answer: A company's break-even point represents the level of sales at which it is neither making a profit nor a loss. Any sales above the break-even point will result in a profit for the company, while any sales below it will result in a loss. Therefore, the lower the break-even point, the more profitable the company will be.
How does a company's cost of capital affect its investment decisions? Answer: A company's cost of capital represents the minimum return that it must earn on its investments to satisfy its investors. If a potential investment has a return that is lower than the company's cost of capital, it will not be undertaken, as it will result in a loss for the company.
How can a company use leverage to increase its return on equity (ROE)? Answer: A company can use leverage to increase its ROE by borrowing funds to finance its operations. This magnifies the effect of its earnings on shareholders' equity, resulting in a higher ROE. However, it also increases the risk of the company's earnings, which can result in larger losses for shareholders.