financial leverage

Definition

Financial leverage measures the degree to which a company uses borrowed funds to finance its assets, amplifying potential returns but also increasing risk. It is often expressed as the ratio of total assets to equity, indicating how many dollars of assets are supported by each dollar of shareholder equity. Higher leverage can boost return on equity (ROE) when investment returns exceed borrowing costs, but it also magnifies losses if returns fall short of interest expenses. Firms must balance leverage to optimize growth and shareholder value without incurring excessive default risk. Analysts monitor leverage alongside coverage ratios to assess a company’s capacity to service debt and maintain financial flexibility under varying economic conditions.

See also