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Unformatted text preview: after-tax
preferred stock dividend to a before-tax amount for consistency with the other
terms in the equation.
EBIT DFL at base level EBIT
EXAMPLE I PD (12.7) 1
1 T Substituting EBIT $10,000, I $2,000, PD $2,400, and the tax rate (T
0.40) into Equation 12.7 yields the following result:
$10,000 DFL at $10,000 EBIT
$10,000 $2,000 $10,000
$4,000 $2,400 1
1 0.40 2.5 Note that the formula given in Equation 12.7 provides a more direct method
for calculating the degree of financial leverage than the approach illustrated using
Table 12.6 and Equation 12.6. Total Leverage total leverage
The potential use of fixed costs,
both operating and financial, to
magnify the effect of changes in
sales on the firm’s earnings per
share. EXAMPLE We also can assess the combined effect of operating and financial leverage on the
firm’s risk by using a framework similar to that used to develop the individual
concepts of leverage. This combined effect, or total leverage, can be defined as the
potential use of fix...
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