What might be a consequence of excessive financial leverage for a firm?

Excessive financial leverage refers to a situation where a firm uses a high level of debt to finance its assets. This can lead to a higher risk of bankruptcy for several reasons. Firstly, increased leverage amplifies a company's fixed financial obligations, primarily in the form of interest payments on debt. During times of economic downturn or periods of poor financial performance, meeting these obligations can become challenging, leading to cash flow difficulties.

Moreover, a highly leveraged company has less room to maneuver financially, as its capital is tied up in debt repayments rather than available for reinvestment or covering unexpected expenses. If cash flows are insufficient to cover interest payments, the firm may risk default, which can result in bankruptcy. The market also tends to view highly leveraged firms as riskier investments, making it more difficult to raise additional funds or refinance existing debt, further increasing the likelihood of bankruptcy.

In contrast, increased flexibility, lower average cost of capital, and improved liquidity ratios are generally associated with more prudent financial management and balanced capital structures, rather than an excessive level of debt. Therefore, the consequence of excessive financial leverage for a firm is indeed a higher bankruptcy risk.