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384 Corporate Finance BRILLIANT’S

Relationship between Costs and H$m°ñQ> Ed§ brdaoO Ho$ _Ü` g§~§Y
Leverages
Costs

Fixed Costs Variable Costs

Fixed Operating Fixed Financial
Costs Costs
e.g., Rent, Salary, etc. e.g., Interest

Operating Financial
Leverage Leverage

Combined Leverage

Significance of Combined/Total H§$~mBÝS>/Q>moQ>c brdaoO H$m _hÎd
Leverage

The significance of Degree of Combined H§$~mBÝS> brdaoO Ho$ _hÎd H$m AZw_mZ Bgr VÏ` go
Leverage DCL lies in the fact that it indicates bJm`m Om gH$Vm h¡ {H$ `h {dH«$` _| n[adV©Z H$m à{V
the effect of changes in sales on EPS. Its impor- eo`a Am` na à^md H$mo Xem©Vm h¡Ÿ& {H$gr Z`o \$m`ZopÝe`b
tance is great in the area of choosing financial
ßbmZ _| BÝdoñQ> H$aZo _| BgH$m ~hþV _hÎd h¡Ÿ& `{X H$ånZr
plans for new investments. If the operating le-
verage is high, the firm may keep its risk con- H$m Am°naoqQ>J brdaoO Cƒ h¡ Vmo dh AnZo \$m`ZopÝe`c
stant by lowering its financial leverage. This brdaoO H$mo {Z`§{ÌV H$aHo$ Omo{I_ _| gÝVwbZ ~Zm gH$Vr
could be done if the new investments are fi- h¡Ÿ& `{X ZE BÝdoñQ>_|Q> nhco \$_© Ûmam Cn`moJ H$s JB©
nanced with more equity than the firm has B{ŠdQ>r go A{YH$ _mÌm Ho$ gmW \$m`Z|g {H$E OmVo h¢ Vmo
used in the past. If the operating leverage has
Bgo àmá {H$`m OmVm h¡Ÿ& Xygar Va\$, `{X Am°naoqQ>J
decreased due to low fixed costs, the firm can
afford to have a more levered financial plan to brdaoO H$_ h¡ Vmo \$m`ZopÝe`c brdaoO _| Omo{I_ ~‹T>mH$a
keep the total risk constant. bm^ Ho$ Adga H$m \$m`Xm CR>m`m Om gH$Vm h¡Ÿ&
The right combination of operating and fi- AbJ-AbJ H$ån{Z`m| _| Am°naoqQ>J Ed§ \$m`ZopÝe`c
nancial leverages will differ among companies. brdaoO H$m {_lU AbJ-AbJ hmo gH$Vm h¡Ÿ& `h {dH«$`
It would be governed by the behaviour of sales. Ho$ ì`dhma Ûmam {Z`§{ÌV {H$`m Om gH$Vm h¡Ÿ& `{X H$ånZr
If the company is related with public utilities {H$gr npãbH$ g{d©g go g§~§pYV h¡ O¡go, BbopŠQ´>{gQ>r
e.g. electricity company, it can afford to com- H$ånZr CÀM Am°naoqQ>J brdaoO d \$m`ZopÝe`c brdaoO
bine high degree of operating and financial le-
verage because they generally have stable or H$mo H$å~mBZ aI gH$Vr h¡ Š`m|{H$ BZH$s àmBOog gm_mÝ`V…
rising prices. But if a company has fluctuation pñWa AWdm ~‹T>Zo H$s àd¥{Îm aIVo h¢& {H$ÝVw `{X {H$gr
in sales, it should avoid use of high leverage H$ånZr _| {dH«$` KQ>Vm-~‹T>Vm h¡ Vmo Bgo brdaoO Ho$ ñVa
since it will be exposed to a very high degree of H$mo Ý`yZ aIZm Mm{h`o Š`m|{H$ Cƒ brdaoO _| Omo{I_ H$m
risk. ñVa ^r Cƒ hmo gH$Vm h¡Ÿ&