OPERATING AND FINANCIAL LEVERAGES

OPERATING AND FINANCIAL LEVERAGE

OPERATING  LEVERAGE

Operating leverage establishes a relationship between contribution and EBIT ( earning before interest and taxes). It is the measurement of degree to which a firm incurs a combination of fixed and variable costs. A business that makes sales providing a very high gross margin and fewer fixed costs and variable costs has much leverage
FORMULA

=            CONTRIBUTION 
                 EBIT

DEGREE OF OPERATING LEVERAGE

The degree of operating leverage (DOL) is a measure used to evaluate how a company's operating income changes with respect to a percentage change in its sales.A company with a high degree of operating leverage has high fixed costs relative to its variable costs.

FINANCIAL LEVERAGE

Financial leverage establishes relationship between EBIT (earning before interest and taxes) and EBT (earning before tax). Financial leverage can be describe the extent to which a company is using borrowed money (fixed income securities such as debt and preference share capital)

FORMULA

    EBIT     
     EBT

DEGREE OF FINANCIAL LEVERAGE

Degree of Financial Leverage (DFL) is a ratio that measures the sensitivity of a company's earnings per share (EPS) to fluctuations in its operating income, as a result of changes in its capital structure.

COMBINED LEVERAGE

combined leverage is the multiplication of operating and financial leverage.


FORMULA

CONTRIBUTION      X   EBIT       
         EBIT                          EBT

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