which of the following best describes the Fargo’s business risk? A. 2 factors that most impact Fargo’s business risk are sales variability and debt to capital B. Fargo’s business risk is measrue by the variability of the company’s operating income over time. C. Fargo’s business risk depends on the firm’s financial leverage. D. Fargo’s business risk is based on the company’s capital structure. you do not need the information about Fargo to answer the question. Just apply the simple definition of business risk and financial risk.
i think B looks good.
I am copying the definition from secret sauce as following: Business risk is the uncertainty about a firm’s future ROA. Its the combination of the followings: sales risk ( variability of demand), operating risk ( proportion of the total costs that are fixed costs). Shouldn’t business risk be measured by variablity of ROA instead of operating income as B suggested? Thus B should be out? and since business risk combines sales risk ( sale variablity), and Operating risk ( reflected by debt to capital ), so A is correct? Correct me if I am wrong
Operating risk does not have to do with capital structure (debt to capital), it has to do with how much of the sales are assosiated with Fixed costs
operating risk is not debt to equity, it is the amount of fixed cost vs variable cost involved in operating and sales. Fixed costs are costs such as PPandE, insurance, etc. Variable costs are only accumulated for each additional unit produced. thus for a company with high fixed costs, they are levered because it takes a higher number of units to offset the fixed cost and reach profitability
Edit way late, was interrupted.