Study Unit 1.4: Leverage Flashcards

1
Q

Operating Leverage

A

arises from the use of a high level of plant and machinery in the production process, revealed through charges for depreciation, property taxes,etc.

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2
Q

Finance Leverage

A

arises from the use of high level of debt in the firm’s financing structure, revealed through amounts paid out of interest

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3
Q

Degree of Operating Leverage (DOL single period)

A

Contribution Margin / Operating income or EBIT

*Requires financial information based on variable costing as it isolates the use of fixed costs

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4
Q

Degree of Operating Leverage (DOL multiple period)

A

% change in operating or EBIT / % change in Sales

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5
Q

Degree of Financial Leverage (DOF single period)

A

EBIT / EBT

Isolates the effects of interest as the only true fixed financing cost

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6
Q

Degree of Financial Leverage (DOF multiple period)

A

% change in net income / % change in EBIT

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7
Q

Identify five factors that influence a company’s capital structure

A
  • Companies with relatively stable sales vs. companies with highly cyclical industries
  • First with assets that are suitable as security for loans
  • Levels of operating risk
  • Growth rates
  • Effective tax rate
  • Amount of debt vs. amount of equity
  • Rating agency assessments
  • Market conditions
  • Financial flexibility
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