(c) EXPLAIN Financial Leverage as a ‘Double edged Sword'

(c) When the cost of 'fixed cost fund' is less than the return on investment, financial leverage will help to increase return on equity and EPS. The firm will also benefit from the saving of tax on interest on debts etc. However, when cost of debt will be more than the return it will affect return of equity and EPS unfavourably and as a result firm can be under financial distress. Therefore, financial leverage is also known as "double edged sword”. Effect on EPS and ROE: When, ROI > Interest – Favourable – Advantage When, ROI < Interest – Unfavourable – Disadvantage When, ROI = Interest - Neutral – Neither advantage nor disadvantage