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Return on investment

Operating leverage

Financial leverage

Combined leverage

Rs. | |
---|---|

Sales (S) | 1000000 |

Variable cost (VC) | 375000 |

Fixed cost (FC) | 95000 |

Debt | 425000 |

Interest on debt | 10% |

Equity capital | 590000 |

The solution is given below −

return on investment = EBIT/ (D + E) return on investment = (S – VC – FC)/ (D + E) return on investment = (1000000 – 375000 – 95000)/ (425000 + 590000) return on investment = 530000/ 1015000 return on investment = 52.22%

operating leverage (OL) = (S – VC)/ EBIT operating leverage = (1000000 – 375000)/ 530000 operating leverage = 625000/ 530000 operating leverage = 1.18

financial leverage (FL) =EBIT/ EBT financial leverage = 530000/ (EBIT – I) financial leverage = 530000/ (530000 – (425000*10%)) financial leverage = 530000/ (530000- 42500) financial leverage = 530000/ 487500 financial leverage = 1.087

combined leverage = OL * FL combined leverage = 1.18 * 1.087 combined leverage = 1.28

Here,

EBIT = Earnings before interest and tax.

EBT = earnings before tax and after interest.

I = interest on debentures.

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