Corporate Finance  Financial Leverage
As mentioned previously, financial risk is the risk to the stockholders that is caused by an increase in debt and preferred equities in a company's capital structure. As a company increases debt and preferred equities, interest payments increase, reducing EPS. As a result, risk to stockholder return is increased. A company should keep its optimal capital structure in mind when making financing decisions to ensure any increases in debt and preferred equity increase the value of the company.
Degree of Financial Leverage
This measures the percentage change in earnings per share over the percentage change in EBIT. This is known as "degree of financial leverage" (DFL). It is the measure of the sensitivity of EPS to changes in EBIT as a result of changes in debt.
Formula 11.19
DFL = percentage change in EPS or EBIT percentage change in EBIT EBITinterest 
Example: Degree of Financial Leverage
With Newco's current production, its sales are $7 million annually. The company's variable costs of sales are 40% of sales, and its fixed costs are $2.4 million. The company's annual interest expense amounts to $100,000 annually. If we increase Newco's EBIT by 20%, how much will the company's EPS increase?
Answer:
The company's DFL is calculated as follows:
DFL = ($7,000,000$2,800,000$2,400,000)/($7,000,000$2,800,000$2,400,000$100,000)
DFL = $1,800,000/$1,700,000 = 1.058
Given the company's 20% increase in EBIT, the DFL indicates EPS will increase 21.2%.

Fundamental Analysis
Calculating Degree of Financial Leverage
Degree of financial leverage (DFL) is a metric that measures the sensitivity of a company’s operating income due to changes in its capital structure. 
Investing Basics
EBIT (Earnings Before Interest and Taxes)
Earnings before interest and taxes, or EBIT, takes a company’s revenue, or earnings, and subtracts its cost of goods sold and operating expenses. 
Investing Basics
The Optimal Use Of Financial Leverage In A Corporate Capital Structure
The amount of debt and equity that makes up a company's capital structure has many risk and return implications. 
Economics
Financial Leverage In Corporate Capital Structure
Corporate management uses financial leverage to increase earnings per share and returnonequity. 
Markets
The 5 Types Of Earnings Per Share
A look at the five varieties of EPS and what each represents can help an investor determine whether a company is a good value, or not. 
Investing
Operating Leverage Captures Relationships
Find out how fixed and variable costs interact to shed new light on old companies. 
Mutual Funds & ETFs
Reinvesting Capital Gains In Leveraged Portfolios
Don't get forced into action. Learn how to plan properly to avoid making rash decisions. 
Fundamental Analysis
The Operating Leverage And DOL
Operating leverage tells investors about the relationship between a company's fixed and variable costs. The higher a company's fixed costs in relation to its variable costs, the greater its operating ... 
Fundamental Analysis
Assess Shareholder Wealth With EPS
Find out if management is doing its job of creating profit for investors. 
Options & Futures
Borrowing Smart In A DebtFilled World
Leveraging your money can have many perks, but it's not always the smartest financial plan.

Degree Of Financial Leverage  ...
A ratio that measures the sensitivity of a company’s earnings ... 
Leverage Ratio
Any ratio used to calculate the financial leverage of a company ... 
Degree Of Operating Leverage  ...
A type of leverage ratio summarizing the effect a particular ... 
Degree Of Combined Leverage  DCL
A leverage ratio that summarizes the combined effect the degree ... 
Leverage
1. The use of various financial instruments or borrowed capital, ... 
Operating Leverage
Operating leverage is a measurement of the degree to which a ...

How does degree of financial leverage (DFL) affect earnings per share (EPS)?
Learn about degree of financial leverage, how to calculate a company's DFL and how the DFL affects earnings per share. Read Answer >> 
Why is degree of financial leverage (DFL) important to shareholders?
Learn about degree of financial leverage, or DFL, and why it is important for investors to determine a company's DFL before ... Read Answer >> 
How can I determine the degree of financial leverage (DFL) for a particular company?
Learn about degree of financial leverage, what it measures and how to calculate a company's degree of financial leverage. Read Answer >> 
How is EBIT breakeven affected by leverage and financing plans?
Read about how financial leverage increases the breakeven point for a corporation, which is the point at which earnings ... Read Answer >> 
What is the difference between degree of operating leverage and degree of financial ...
Learn about the degree of financial leverage and the degree of operating leverage, what they measure, and the difference ... Read Answer >> 
What is the difference between operating leverage and financial leverage?
Discover the two equity valuation metrics, operating leverage and financial leverage, how they are similar and what differentiates ... Read Answer >>