Kappa Ltd. has owners’ funds (equity) of Rs. 54 lakh and long-term debt of Rs. 18 lakh. What is its financial leverage, measured as the proportion of debt in its total capital?
Answer & explanation
Correct answer: option 4
The correct answer is Option (4) → 0.25
Given:
Equity (owners’ funds), E = Rs. 54 lakh
Long-term debt, D = Rs. 18 lakh
Financial leverage = D ÷ (D + E)
Total capital = 18 + 54 = Rs. 72 lakh
Financial leverage = 18 ÷ 72 = 0.25
Option (1) 0.33 — Incorrect. This is D ÷ E = 18 ÷ 54, the debt-equity ratio. Financial leverage can also be shown as D ÷ E, but this question asks for the proportion of debt in total capital, so the divisor must be D + E, not E alone.
Option (2) 0.75 — Incorrect. This is E ÷ (D + E) = 54 ÷ 72, the share of equity in total capital.
Option (3) 3.00 — Incorrect. This is E ÷ D = 54 ÷ 18, the debt-equity ratio turned upside down.
Option (4) 0.25 — Correct. Debt over total capital, as worked out above.
NCERT (2026-27 Edition): “Capital Structure … Capital structure of a company, thus, affects both the profitability and the financial risk. A capital structure will be said to be optimal when the proportion of debt and equity is such that it results in an increase in the value of the equity share. In other words, all decisions relating to capital structure should emphasise on increasing the shareholders’ wealth.”
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