In the long run, all the costs incurred by an entity are variable in nature. But in the short run, a part of such cost is fixed known as Fixed or Standing Costs, and the rest of the cost varies with the variation in level of output. To understand and learn more about costs you can refer to online assistance from cost experts.
Operating leverage is a measure of the standing costs in a companyâ€™s cost and revenue structure and also presents the change in operating profit due to change in sales volume. It projects the effect of the operating leverage on the Earnings before interest and taxes (EBIT). The ratio of fixed costs and variable costs determines the operating leverage.
Why is it important?
Estimation of the operating leverage is an important and beneficial tool for any business entity because it makes way for prediction of profit variation in case when the company contemplates changing its volume of output and consequently its volume of sales. Students venturing into the financial education and similar career choices must be well equipped with the concepts of operating leverage. Getting operating leverage homework solutions online from persons having financial expertise ensures that you, as a student get your concept crystal clear.
Formula for ascertaining the degree of operating leverage
In order to mitigate the losses, the company should calculate the degree of operating risk and the degree of operating leverage it is subject to. In other words, its calculation is a type of safety measure for the company so that it can foresee the unforeseen losses.
There are 2 different ways for calculating operating leverage of a company or entity:-
- When multiple sets of data are available:
When the Earnings before Interest and Taxes as well as the Sales revenue figures of two separate years are in hand,
You can calculate Operating leverage as:
(% Change in Earnings before Interest and Taxes)
Â (% Change in Sales)
- When only the income statement or the profit and loss statement is available:-
Operating leverage is calculated as:
Earnings Before Tax ( EBT)
Earnings before Interest and Tax (EBIT)
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