A financial analyst for quality investment, a diversified investment fund, has gathered the following information for the

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Question:

A financial analyst for quality investment, a diversified investment fund, has gathered the following information for the year 2005 and 2006 on two firms A and B that is considering adding to its portfolio. Of particular concern are the operating and financial risk of each firm.

2005 2006

Firm A Firm B Firm A Firm B

Sales ($million) 10.7 13.9 11.6 14.6

EBIT ($million) 5.7 7.4 6.2 8.1

Asset ($million) 10.7 15.6

Debt ($million) 5.8 9.3

Interest ($million) 0.6 1.0

Equity ($million) 4.9 6.3

a) Use the data provided to assess the operating leverage of each firm (using 2005 as a point of reference). Which firm has more operating leverage?

b)Use the data provided to assess each firm\' ROE (cash to equity/equity), assuming the firm\'s return on assets is 10% and 20% in each case. which firm has more financial leverage?

c)Using your finds in parts (a) and (b) to compare and contrast the operating and financial risk of Firms A and B. Which firm is more risky? Explain.