course although capital structure is financially important it like many

Course although capital structure is financially

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E X A M P L E Substituting the values calculated for DOL and DFL, shown on the right-hand side of Table 12.7, into Equation 12.10 yields DTL 1.2 5.0 6.0 The resulting degree of total leverage is the same value that we calculated directly in the preceding examples. R e v i e w Q u e s t i o n s 12–1 What is meant by the term leverage?How are operating leverage, financialleverage, and total leverage related to the income statement?12–2What is the operating breakeven point?How do changes in fixed operat-ing costs, the sale price per unit, and the variable operating cost per unitaffect it?12–3What is operating leverage?What causes it? How is the degree of operat-ing leverage (DOL)measured?12–4What is financial leverage?What causes it? How is the degree of financialleverage (DFL)measured?12–5What is the general relationship among operating leverage, financial lever-age, and the total leverage of the firm? Do these types of leverage comple-ment each other? Why or why not?
522 PART 4 Long-Term Financial Decisions The various types and characteristics of corporate bonds, a major source of debt capital, were discussed in detail in Chapter 6. The cost of debt is lower than the cost of other forms of financing. Lenders demand relatively lower returns because they take the least risk of any long-term contributors of capital: (1) They have a higher priority of claim against any earnings or assets available for pay- ment. (2) They can exert far greater legal pressure against the company to make payment than can holders of preferred or common stock. (3) The tax deductibil- ity of interest payments lowers the debt cost to the firm substantially. Unlike debt capital, which must be repaid at some future date, equity capital is expected to remain in the firm for an indefinite period of time. The two basic

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