Positive and Negative Leverage Leverage is a double-edged sword. It can magnify gains, or magnify losses. Positive leverage occurs only when the return on borrowed funds is greater than the cost of the debt (debt yield). Negative leverage occurs when the return is less than the cost of debt. In this analysis we do not know, exactly, the return on borrowed funds so the average return for all assets is used. Thus, if the Return on Assets is greater than the cost of debt, then the leverage is considered positive and that would mean Return on Assets is being leveraged to improve Return on Equity. Conversely, if ROA is less than the cost of debt, then the leverage is considered to be negative and in that case ROA is being leveraged, but it is reducing ROE. 2021 19.1% 20.0% 15.0% 10.0% 4.00% 5.0% 0.096 ROA (EBIAT) Cost of Debt Q26. Positive and Negative Leverage conclusion: a. The firm is positvely leveraged increasing leverage will increase ROE. b. The firm is negatively leveraged; increasing leverage will decrease ROE. The primary problem is low ROA c. The firm is negatively leveraged; increasing leverage will decrease ROE. The primary problem is the high Cost of Debt d. Not applicable (the firm is not leveraged) Net Sales 100% 100% 1823 Gr Mar 68.9% 49.2% Microsoft Corporation Industry Computer and electronic product manufacturing ROS 36.3% 12.9% COGS 31.1% 50.8% 1394 (. 5.8% S&GA 3.0% 0 ROA 19.1% 7.4% Op. Exp 26.84 363% 324 ROE 13.09 Other Op Esp. 23.7% (+) 15 (5) Lex Ratio 3.35 3.29 Sales 1004 100% 288 Sales Assets 0.50 0.58 (3) Fixed Assets 14.89 71.4% 259 696 Inventory 0.89 3.9% 39% Total Assets 100% 100% 129 Debt Burden 1039 85% 6) Cur. Assets (+) 55.2% 28.6% Acct. Rec. 11.49 11.0% 19 LEGEND Firm's value...) Industry value Firm value trend Ratio Name 10% 5% Filmy VW as a percent of Net Sales as a percent of Total Assets As percent of Equity & a percent of Earnings Oth Cur Assets 43.1% 13.7%