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C) Combined
Leverage
Operating Leverage
are
more
However,
Contribution = EBIT +Fixed
Cost
So, DOL= 1+ (F/EBIT)
Recession
Normal
Expansion
A
B
A
B
A
B
Units Sold
5
5
6
6
7
7
Price Per Unit (Rs)
4
4
4
4
4
4
Sales(in Mn)
20 20
24
24
28
28
Variable Cost per
unit (Rs)
2
1
2
1
2
1
Total Variable Cost 10
5
12
6
14
7
Conribution
10 15
12
18
14
21
Fixed Cost (Rs. Mn) 10 16
10
16
10
16
EBIT
2
4
5
As (Rs.
one Mn)
can see 0
Firm-1with 2a higher
operating
leverage(i.e. higher fixed cost) tends to do well in
the expansion phase & losses out in the
recessionary environment.
Financial Leverage
Unfavorable
Neutral
% Change in EPS
% Change in EBIT
100%
0%
50%
50%
25%
75%
50000
25000
Debt@ 15%
I rate
15%
EBIT Margin
Case 1
EBIT
Interest
PBT
Tax @ 50%
PAT
EPS
ROE
24%
240000 240000 240000
0
75000 112500
240000 165000 127500
120000
82500
63750
120000
82500
63750
1.2
1.65
2.55
12.0%
16.5%
25.5%
Case 1 : EBIT
Margin (i.e.
ROI) > Rate of
Interest
100%
0%
50%
50%
25%
75%
Debt@ 15%
I rate
15%
EBIT Margin
Case 2
EBIT
Interest
PBT
Tax @ 50%
15%
150000 150000 150000
0 75000 112500
150000 75000 37500
75000 37500 18750
Case 2 : EBIT
Margin (i.e.
ROI) = Rate of
Interest
Total Investment
Equity
Debt
No of Shares@
Rs.10
100%
0%
50%
50%
25%
75%
50000
25000
Debt@ 15%
I rate
15%
EBIT Margin
Case 3
EBIT
Interest
PBT
12%
120000 120000 120000
0 75000 112500
120000 45000
7500
Case 3 : EBIT
Margin (i.e.
ROI) < Rate of
Interest
Combined Leverage
Combined leverage in the impact of change of sales
on the EPS.
Higher the combined leverage higher will be the
sensitivity of EPS with respect to sales.
Combined leverage is nothing but the combined
impact of operating & financial leverages.
% Change in EPS
% Change in Sales
DoL * DFL
As we know, DFL =
% Change in EPS
% Change in EBIT