What factors would cause a difference in the use of financial leverage for a utility company and an automobile company?

Answer 1

Financial leverage is defined by the text as the amount of debt used in the capital structure of the firm. It is what determines how the company plans to finance their operations. The automobile industries rely heavily on the consumers' demands to purchase more and more every year. Since they are typically a highly leveraged company, they see a much larger increase on the income with increased sales than does a conservative company. As described and noted by the Degree of Operating Leverage, an automobile company is at an extreme risk of financial losses if they do not sell anything as opposed to a more conservative firm. But as their sales increase substantially, they are going to make a much larger income compared to the conservative firm once they pass the break even mark. Now what could cause a difference in the use of their financial leverage would be if the demand for automobiles decreased. Fortunately for the auto industries they house many specialized machines and most of their value for assets comes from PPE. As for a utility company, their products are a necessity so they have the luxury to charge the consumer a set amount and use the cash received to cover for their operations. They also can fluctuate with given natural causes such as a hurricane and increase the costs associated with their use. If you increase the price of an automobile, sales might decline drastically. With an increase in a utility, assuming there isn't a drastic change in habits we will be forced to pay whatever they want to cover their debts.