Type of leverage

Type of leverage:

Company's finance manager tests three types of leverages:

A. Operating leverage is the percentage change in earnings prior to interest and tax divided by percentage change in the sale. When company is charging fixed cost, the operating leverage states the EBIT will more than sale since due to rising sale of fixed cost per unit will reduce and it will raise EBIT more than sale.


Operating Leverage = Percentage change in EBIT / Percentage change in Sale

This leverage is very obliging for finance manager since, if operating leverage is greater than or assume it is two then it means when sale will raise 100% then earning will raise 200%. At this time, finance manager can obtain additional loan for rising the earning of shareholders.

B. Financial leverage: It is the second kind of leverage. Financial leverage is termed as trading on equity. When any company's finance manager recognizes that company's return on investment is greater than interest on loan or borrowing obligation. At this time, whenever company requires additional money, then finance manager acquires its loan and bought the asset from similar loan. Therefore, any method in which any asset is purchased with loan and trying to raise EPS, then this is termed as financial leverage.

Formula for computing financial leverage:

= Percentage change in Earning per share / Percentage change in earnings before interest and tax
= % change in EPS / % change in EBIT

This formula describes the relationship between % change in EPS and % change in EBIT and subsequent to deep study of this financial leverage, finance manager judges to get suitable loan for buying assets.

C. Combined leverage:

This is the product of operating leverage and financial leverage.

Combined leverage = Operating leverage X financial leverage

= % change in EBIT / % change in sale X % change in EPS / % change in EBIT

→ High operating and high financial leverage combination is much high risky for business.
→ Excellent combination is that in which lower operating with high financial leverage.

Latest technology based Finance Online Tutoring Assistance

Tutors, at the www.tutorsglobe.com, take pledge to provide full satisfaction and assurance in Finance help via online tutoring. Students are getting 100% satisfaction by online tutors across the globe. Here you can get homework help for Finance, project ideas and tutorials. We provide email based Finance help. You can join us to ask queries 24x7 with live, experienced and qualified online tutors specialized in Finance. Through Online Tutoring, you would be able to complete your homework or assignments at your home. Tutors at the TutorsGlobe are committed to provide the best quality online tutoring assistance for Finance Homework help and assignment help services. They use their experience, as they have solved thousands of the Finance assignments, which may help you to solve your complex issues of Finance. TutorsGlobe assure for the best quality compliance to your homework. Compromise with quality is not in our dictionary. If we feel that we are not able to provide the homework help as per the deadline or given instruction by the student, we refund the money of the student without any delay.

2015 ┬ęTutorsGlobe All rights reserved. TutorsGlobe Rated 4.8/5 based on 34139 reviews.