Example of financial leverage
Posted: Wed Jan 22, 2025 10:50 am
According to the results of 2019, the company received a gross profit of 14,850 thousand rubles, net profit - 8,760 thousand rubles. Average annual asset value - 56,544 thousand rubles. Average loan rate - 12% per annum.
Let's calculate the return on assets:
(14,850 / 25,280 + 31,264) x 100 = 26.3%.
Now let's calculate the effect of financial leverage:
(1 – 20/100) x (26.3% – 12%) x 0.809 = 0.8 x 14.3% x 0.809 = 9.25%.
Thus, if we attract 31,264 thousand usages of car owner database rubles of borrowed funds (liabilities under sections IV and V of the balance sheet), then the return on equity will be equal to 9.25%.
If, however, being in the same conditions, we increase the ZK by 30% (RUB 31,264 thousand + 30% = RUB 40,643 thousand), then the profitability will increase. We obtained this result based on the following calculations:
PA = (14,850 / 25,280 + 40,643) x 100 = 36.54%;
CFL = 25,280 / 40,643 = 0.622;
EFL = 0.8 x (36.54% - 12%) x 0.622 = 12.21%.
Thus, if a company attracts 30% more borrowed resources, it will be able to increase profitability from 9.25% to 12.21%.
Recommended articles on this topic:
Sales Triggers That Have Never Failed
Marketing Tips: How to Show That Your Product is the Best
How to increase the flow of customers by choosing the right method
Operating leverage
Operating leverage, also known as operating leverage or business leverage, is the percentage by which an organization's net profit can increase or decrease if revenue changes by 1%.
Based on this, if you have a revenue plan and you know the average/current value of the company's operating leverage, you can make a forecast regarding the change in operating profit using the formula:
S/P = Sales Revenue / Sales Profit
The effect of operating leverage is usually denoted by the abbreviation DOL (Degree of Financial Leverage). Its effect is that an increase or decrease in revenue entails a more significant change in profit.
To calculate DOL, you need to use the formula:
DOL = MP / EBIT
Where:
MP – gross marginal income;
EBIT – earnings before interest and taxes.
It is worth noting that gross marginal income is the difference between revenue (excluding VAT and excise taxes) and variable costs. In other words, it is the part of revenue that covers fixed costs and determines profit.
EBIT is the difference between gross profit and the sum of fixed and variable income.
Therefore, we can identify another formula for determining D
Let's calculate the return on assets:
(14,850 / 25,280 + 31,264) x 100 = 26.3%.
Now let's calculate the effect of financial leverage:
(1 – 20/100) x (26.3% – 12%) x 0.809 = 0.8 x 14.3% x 0.809 = 9.25%.
Thus, if we attract 31,264 thousand usages of car owner database rubles of borrowed funds (liabilities under sections IV and V of the balance sheet), then the return on equity will be equal to 9.25%.
If, however, being in the same conditions, we increase the ZK by 30% (RUB 31,264 thousand + 30% = RUB 40,643 thousand), then the profitability will increase. We obtained this result based on the following calculations:
PA = (14,850 / 25,280 + 40,643) x 100 = 36.54%;
CFL = 25,280 / 40,643 = 0.622;
EFL = 0.8 x (36.54% - 12%) x 0.622 = 12.21%.
Thus, if a company attracts 30% more borrowed resources, it will be able to increase profitability from 9.25% to 12.21%.
Recommended articles on this topic:
Sales Triggers That Have Never Failed
Marketing Tips: How to Show That Your Product is the Best
How to increase the flow of customers by choosing the right method
Operating leverage
Operating leverage, also known as operating leverage or business leverage, is the percentage by which an organization's net profit can increase or decrease if revenue changes by 1%.
Based on this, if you have a revenue plan and you know the average/current value of the company's operating leverage, you can make a forecast regarding the change in operating profit using the formula:
S/P = Sales Revenue / Sales Profit
The effect of operating leverage is usually denoted by the abbreviation DOL (Degree of Financial Leverage). Its effect is that an increase or decrease in revenue entails a more significant change in profit.
To calculate DOL, you need to use the formula:
DOL = MP / EBIT
Where:
MP – gross marginal income;
EBIT – earnings before interest and taxes.
It is worth noting that gross marginal income is the difference between revenue (excluding VAT and excise taxes) and variable costs. In other words, it is the part of revenue that covers fixed costs and determines profit.
EBIT is the difference between gross profit and the sum of fixed and variable income.
Therefore, we can identify another formula for determining D