Using the Van Accessible data from table 5-4: Table 5-4 Abreviated Income Statem

Question

Using the Van Accessible data from table 5-4:

Table 5-4 Abreviated Income Statement The Van Accessible Corp all figures in $thousands except Earnings Per Share 31-Dec-13 31-Dec-12 Total revenue 1,789,654 703,904 Cost of Revenue 478,963 275,963 Gross Profit 1,310,691     427,941 Operating Expenses        65,987       57,896 Operating Income 1,244,704     370,045 Interest and Taxes      544,444     289,635 Net Income      700,260       80,410 Earnings Per Share 50,000,000 Shares outstanding         14.01          1.61 a. calculate the degree of operating leverage(DOL) b. calculate the degree of financial leverage(DFL) c. Calculate the degree of combined leverage(DCL) d. Explain what the DOL, DFL, and DCL mean   

Explanation / Answer

a) Degree of Operating leverage (DOL) = % change in EBIT/ % change in sales

Sales are in our case in Total revenue and EBIT is operating income.

% change in sales = (1,789,654 - 703,904) / 703,904 = 1.5425 or 154.25%

% change in EBIT = (1,244,704 - 370,045) / 370,045 = 2.3637 or 236.37%

DOL = 236.37% / 154.25% = 1.53

b) Degree of Financial Leverage (DFL) = % Change in EPS / % Change in EBIT

% Change in EPS = (14.01 - 1.61) / 1.61 = 7.7019 or 770.19%

DFL = 770.19% / 236.37% = 3.26

c) Degree of Combined leverage (DCL) = % change in EPS / % change in Sales

DCL = 770.19% / 154.25% = 4.99 or 5

d) Degree of Operating Leverage is the leverage ratio that sums up the effect of an amount of operating leverage on the company’s earnings before interests and taxes (EBIT). Operating Leverage takes into account the proportion of fixed costs to variable costs in the operations of a business.

Degree of Financial Leverage is the leverage ratio that sums up the effect of an amount of financial leverage on the earning per share of a company. The degree of financial leverage or DFL makes use of fixed cost to provide finance to the firm and also includes the expenses before interest and taxes.

Degree of Combined Leverage is the leverage ratio that sums up the combined effect of the Degree of Operating Leverage (DOL) and the Degree of Financial Leverage (DFL) has on the Earning per share or EPS given a particular change in shares. This ratio helps in ascertaining the best possible financial and operational leverage that is to be used in any firm or business.

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