QUESTIONS

a) Define the term operating leverage. What type of effect occurs when the firm uses operating leverage?

b) Define the term financial leverage. Does the firm use financial leverage if preferred stock is present in the capital structure?

c) What is meant by total risk exposure? How may a firm move to reduce its total risk exposure?

d) How is a firms degree of combined leverage (DCL) related to its degree of operating and financing leverage?

e) What are the major limitations of EBIT-EPS analysis as a technique to determine the optimal capital structure?