Financial Analyst Interview Questions and Answers - 2

10. What are the two primary sources of financing a company?

The two primary sources of financing a company are:

i.) Debt
ii.) Equity

11. What do you mean by Cost of debt?

Cost of debt refers to the return that a company provides to its debt holders and creditors. It is the compensation for the risk the capital providers bear with lending their money to the company. Cost of debt is an indicator of default risk of a company and the prevailing interest rate in the market.

12. What are Leverage Ratios?

It is a financial ratio which signifies the level of debt a company owes against other accounts like cash flow statement, balance sheet, or income statement etc. This ratio is a good indicator to understand if a company can pay off its debt on time or not. There are two things that knowing the Leverage Ratio tells us:

i.) If the earnings from the operations are higher than the money they have to pay as interest rate on these debt or loans, the debt seems to be working favorably.

ii.) If there are no or too few debt, it raises the question on the operating margins. Someone who is not willing to borrow and expand the operation is probably working on a very tight margin.

13. Name some common leverage ratios.

Some of the common leverage ratios are:

i.) Debt to Assets Ratio
ii.) Debt to Equity Ratio
iii.) Debt to Capital Ratio
iv.) Debt to EBITDA Ratio
v.) Asset to Equity Ratio

14. What are the various types of leverage?

The three common types of leverage are:

i.) Operating leverage - Percentage or ratio of fixed costs to variable costs. It signifies the proportion of fixed assets used by the company.

ii.) Financial leverage - Refers to the amount of obligation or debt a company uses to finance its business operations

iii.) Combined leverage - Combination of using operating leverage and financial leverage.

15. What are Coverage Ratios?

Coverage Ratios signify the company's ability to pay off its financial obligations.

The most common of Coverage Ratios are:

i.) Interest Coverage Ratio
ii.) Debt Service Coverage Ratio
iii.) Cash Coverage Ratio
iv.) Asset Coverage Ratio

16. Which one is cheaper: Debt or Equity?

Debt is cheaper as it has got collaterals backing it up and is paid before equity.

17. Why is it recommended to raise debt rather than equity?

There are three reasons to prefer debt over equity:

i.) It is cheaper
ii.) It gets a tax shield
iv.) It keeps the ownership stake of investors safe.