Chapter 16 Operating and Financial Leverage 16-1
16-1
Operating and Financial Leverage Operating Leverage ◆ Financia| Leverage ◆ Total Leverage Cash-Flow ability to Service Debt Other Methods of Analysis e Combination of methods 16-2
16-2 u Operating Leverage u Financial Leverage u Total Leverage u Cash-Flow Ability to Service Debt u Other Methods of Analysis u Combination of Methods
Operating Leverage Operating Leverage The use of fixed operating costs by the firm One potential effect caused by the presence of operating leverage is that a change in the volume of sales results in a more than proportional change in operating profit (or loss) 16-3
16-3 uOne potential effect caused by the presence of operating leverage is that a change in the volume of sales results in a more than proportional change in operating profit (or loss)
Impact of Operating Leverage on Profits (in thousands) Firm F Firm v Firm 2F Sales $10 $11$195 Operating Costs Fixed 14 Variable Operating Profit 1 $2$2.5 FC/total costs 78 22 82 FC/sales 70 18 n72 16-4
16-4 Sales $10 $11 $19.5 Operating Costs Fixed 7 2 14 Variable 2 7 3 Operating Profit FC/total costs .78 .22 .82 FC/sales .70 .18 .72
Impact of Operating Leverage on Profits Now, subject each firm to a 50% increase in sales for next year Which firm do you think will be more Sensitive to the change in sales(i.e, show the largest percentage change in operating profit, EBIT? [ Firm F;[] Firm V;[I Firm 2F 16-5
16-5 u Now, subject each firm to a for next year. u Which firm do you think will be more to the change in sales (i.e., show the largest percentage change in operating profit, EBIT)? [ ] ; [ ] ; [ ]