Question

Under which of the following conditions could the overuse of financial leverage be detrimental to the firm?

A. In a stable industry.

B. When there is cyclical demand for the firm's products.

C. During an upswing in the business cycle.

D. When there is low interest cost compared to return on assets.

Answer 1

The overuse of financial leverage can be detrimental to a firm when there is cyclical demand for the firm's products or when there is low interest cost compared to return on assets.

Step-by-step explanation:

The overuse of financial leverage can be detrimental to a firm under certain conditions. One such condition is when there is cyclical demand for the firm's products. During a downturn in the business cycle, when demand for the firm's products is low, the firm may struggle to generate sufficient income to cover its scheduled interest payments, leading to financial difficulties.

Another condition is when there is low interest cost compared to return on assets. If the firm is taking on too much debt at a low interest cost, it may become overleveraged and unable to generate enough return on its assets to cover the interest payments.