What does "financial leverage" refer to?

"Financial leverage" specifically refers to the use of debt to acquire additional assets, making it a critical concept in finance. By taking on debt, a company can invest more capital into projects or assets than it would be able to if relying solely on its equity. This can lead to higher returns on equity when the investments perform well because the debt allows the company to capitalize on growth opportunities without overspending its available cash.

Financial leverage amplifies both potential gains and risks: if the investments funded through debt generate returns that exceed the cost of the debt, the equity holders see a boost in returns. Conversely, if those investments do poorly, the obligation to repay the borrowed funds can lead to significant losses.

In contrast, other options touch on different aspects of financial management and analysis. The amount of cash on a balance sheet does not directly relate to leverage but rather to liquidity. The ability to generate profit from sales focuses on operational efficiency or profitability, independent of capital structure. Lastly, the ratio of equity to total assets measures the company's capital structure but does not directly define financial leverage, which emphasizes the use of debt rather than equity.