Question

You are the accountant for a department store. You have 300M in asset and 45% of...

You are the accountant for a department store. You have 300M in asset and 45% of that number is your debt.

You would like a loan to buy more denim.

What is your financial leverage ratio?

How much do you need to borrow if you want a leverage ratio of 6?

Would you recomend this action?

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Answer #1

Debt to equity ratio = Total debt/Total equity = 135/165 = 0.818

For financial leverage = 6;

6 = Total debt/Total equity = Total debt/165

=> Total debt = 6*165 = 990M

Hence, (990-135) = 855M needs to be borrowed for financial leverage = 6.

I would not recommend this action, since financial leverage = 6 is a very high value, and it indicates that the company is financially weak and may also become bankrupt. It also signifies that a large debt is being used by the company to fund its assets.

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