Skip to content

CA Intermediate · Financial Management and Strategic Management · Financing Decisions - Leverages

A firm has a degree of operating leverage (DOL) of 3 and a degree of financial leverage (DFL) of 1.5 at its current level of sales. If sales increase by 8%, by what percentage will earnings per share (EPS) increase, assuming no change in the number of shares?

EPS will rise by 36%. The degree of combined leverage is the product of operating leverage 3 and financial leverage 1.5, which equals 4.5. Multiplying 4.5 by the 8% rise in sales gives a 36% increase in earnings per share.

  1. A36%Correct
  2. B24%
  3. C12%
  4. D16%

Explanation

DCL = DOL × DFL = 3 × 1.5 = 4.5. % change in EPS = 4.5 × 8% = 36%. Option 24% results from using only DOL (3 × 8%), ignoring financial leverage. Option 12% uses DFL × 8%, ignoring operating leverage.

Did you get it right without looking?

One question tells you little. A timed set on Financing Decisions - Leverages shows your real accuracy, how long you take and where you lose marks.

Practise Financing Decisions - LeveragesFree diagnostic mock

More Financing Decisions - Leverages questions