Combined Leverage — Microsoft Excel
In this article, we will walk you through the fantastic journey of learning combined leverage in finance using excel. As we understand or take a small glance of combined leverage, so it is basically calculated by combining the risk of operating and financial leverage and total of both leverages to identifying the fall down patterns of a company.
Combined Leverage
Combined leverage represents a company’s total risk related to operating leverage, financial leverage and the net effect on the EPS.
Combined leverage identifies any potential issues with the company’s capital structure.
Degree of Combined Leverage: The degree of combined leverage to which a company uses operating leverage and financial leverage can be different. Some companies frequently use more financial leverage rather than operating leverage, whereas some use more operating leverage. It can be misleading to use a single
leverage of find the risk factor. The Degree Of Combined Leverage makes it possible to do this. DCL shows the combined effect of DOL and DFL, which makes life easy for an analyst.
Formula:
Where,
DCL: Degree of Combined Leverage.
DOL: Degree of Operating Leverage.
DFL: Degree of Financial Leverage Degree of Financial Leverage.
Let’s take an example.
As we can see in the figure below, in Case I and Case II of Degree of Operating Leverage, when Sales increased by 20% and decreased by 20%, respectively, while the Fixed
cost remained the same, the profit went up by 40% in case I and down by -40% and DOL remained the same at 2.
In Case I and Case II of Degree of Financial Leverage, the interest decreased by the same amount, but the net effect of PBT is huge in Case II. It means if Sales goes
down, the DFL will be greatly impacted.
The variance in the Degree of Combined Leverage between Case I and Case II is
primarily attributed to the dissimilar impact of the Degree of Financial Leverage in both cases.
Conclusion
Finally, we will understand the fundamentals of combined leverage and along with that we also covered how it is beneficial in some situations but as I earlier told you, it is based on market conditions, combined leverage is the combination of operating and financial leverage in finance.
