Debt (or financial leverage) management ratios

Companies have the opportunity to use varying amounts of different sources of financing to acquire their assets, including internal and external sources, debt (borrowed), and equity funds.

Company A uses long-term debt to finance its assets, and company B uses capital generated from shareholders to finance its assets. Which company would be considered a financially leveraged firm?

Company B

Company A

Which of the following is true about the leveraging effect?

Using financial leverage reduces a firms potential for gains and losses.

Using financial leverage can generate shareholder wealth, but if a company fails to make the interest and principal payments on its debt, credit default can reduce shareholder wealth.

Chilly Moose Fruit Producer has a total asset turnover ratio of 4.00, net annual sales of $40,000,000, and operating expenses of $30,000,000 (including depreciation and amortization). On its current balance sheet and income statement, respectively, it reported total debt of $4,625,000, on which it pays 7% interest on its outstanding debt.

To analyze a companys financial leverage situation, you need to measure the firms debt management ratios.

Based on the preceding information, what are the values for Chilly Moose Fruits debt management ratios? (Note: Round your answers to two decimal places.)

Ratio	Value
Debt ratio
Times-interest-earned ratio

Chilly Moose Fruit Producer raises ??? from creditors for each dollar of equity.

Influenced by a firms ability to make interest payments and pay back its debt, if all else is equal, creditors would prefer to give loans to companies with ???? debt ratios.