What is the connection between Risk and Leverage in terms of capital structure ?

Answer 6A(iv) Risk is the probability that the future revenue streams of a firm shall vary from the expected figures. The variation is normally on the negative or the lower side because a positive variation reduces the investment risk and a reduction of risk is always welcome. For linkage with leverage, risk is divided into two broad categories i.e business risk and financial risk. Business risk pertains to risks associated with day to day operations of the firm. For example, decisions made regarding purchase of raw materials, manufacturing expenses and administrative expenses, etc. change the business risk profile of the firm. These decisions have an impact upon the operational profitability of the firm, i.e. the profits before interest and taxes. Financial risk, on the other hand, is associated with introduction of fixed interest bearing debt obligations in the capital structure of the firm. These obligations create a prior charge on EBIT before distribution of post-tax profits among the owners.