A change in EBIT is magnified into a larger change in EPS. This means that financial leverage is using ____ as its fulcrum.
A) short-term costs
B) fixed costs
C) variable costs
D) retained earnings

Question

Quizplus · Accepted Answer

Financial leverage is using fixed costs as its fulcrum, meaning that a change in EBIT (which is the amount of operating income after deducting operating expenses, including fixed costs) can have a magnified effect on EPS (earnings per share) due to the fixed costs. This is because fixed costs do not change with the level of output, so any increase in revenue will result in a greater increase in profit. On the other hand, variable costs would not magnify the effect on EPS as they change proportionally with the level of output, while short-term costs and retained earnings are not directly related to financial leverage.

A Change in EBIT Is Magnified into a Larger Change