Hello! I'm reading up on the choice between paying cash dividends and repurchasing shares (LOS 27.g), and I'm struggling to understand how share repurchases increase financial leverage. What I do understand is why a company would repurchase shares - in order to achieve or move in the direction of optimal capital structure. Would anyone mind to help explain the "how" reasoning I'm unable to think through?

Formula for Financial Leverage = total debt / equity Equity = outstanding shares So when a company buy back shares it reduces the equity (the denominator) which will increase the financial leverage. e.g. Debt = 10m; Equity = 5m; Financial Leverage = 10/5 = 2 Company buyback 3m Financial Leverage = 10 / (5 - 3) = 5

Boy, that was easy! Thanks, vincentt.

A CFA Level 2 Discussion About Share Repurchase Impact On Financial Leverage

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This topic has 3 replies, 2 voices, and was last updated Aug-177:24 am by vincentt.

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- vincentt
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  - CFA Level 3
  16 Aug 2017 at 7:06 pm
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  Formula for Financial Leverage = total debt / equity
  
  Equity = outstanding shares
  
  So when a company buy back shares it reduces the equity (the denominator) which will increase the financial leverage.
  
  e.g. Debt = 10m; Equity = 5m;
  Financial Leverage = 10/5 = 2
  
  Company buyback 3m
  Financial Leverage = 10 / (5 – 3) = 5
- STP
  Participant
  20 Aug 2017 at 2:00 am
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  Boy, that was easy! Thanks, vincentt.
- vincentt
  Participant
  - CFA Level 3
  20 Aug 2017 at 7:24 am
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  no problem STP!
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