How does increasing financial leverage generally affect a company's risk profile?

Increasing financial leverage refers to the use of borrowed funds to finance the company's assets. When a company takes on more debt, it amplifies the potential returns on equity but also increases the volatility of those returns. This is because debt repayments are a fixed obligation; regardless of how the company's business performs, it still has to pay the interest and principal on its loans.

As financial leverage increases, the financial risk for shareholders grows. If the company experiences downturns or lower-than-expected earnings, it may struggle to meet its debt obligations, potentially leading to default or bankruptcy. This heightened sensitivity to fluctuations in earnings underscores the consequence of financial leverage: while it has the potential to increase returns in a favorable environment, it equally raises the stakes during unfavorable conditions.

Therefore, the correct answer emphasizes that increasing financial leverage fundamentally elevates a company's financial risk profile due to the added burden of debt obligations in the face of operating performance variability.