Financial Leverage

Knowledge Center

Summary, forum, best practices, expert tips and information sources.

19 items • 77.170 visits



Financial Leverage works like a lever or a pullyDefinition Financial Leverage? Meaning.

Financial Leverage (FINLEV), also known as Gearing, is a technique to multiply gains and losses. It reflects the amount of debt used in the capital structure of a firm, compared to the amount of equity it uses.


Benefits of Financial Leverage

  • By utilizing borrowed money (debt) rather than equity to fund its operations, a business leverages its equity, because it will require less equity capital, and any profit (or loss) can be shared among a smaller base of shareholders.
  • In this way, debt can be used to magnify the rate of return on Shareholders' Equity.

Tax Deductibility of Debt and Financial Leverage

When you compare the costs of the 2 main ways of obtaining capital for a firm: debt and equity, interest payments on debt are typically tax-deductable, while dividends on equity are not. This tax effect means for a business that obtaining capital via debt is cheaper (net, after tax). So if it obtains debt, we can also say that its financial leverage is influenced (in a positive way) because its Return on Equity (ROE) will be increased.

Calculation Financial Leverage. Formula

The degree of this leverage is defined as the percentage change in Earnings per Share (EPS) that results from a given percentage change in Earnings Before Interest and Taxes (EBIT), and it is calculated as follows:

FINLEV = (Percentage change in EPS)  /  (Percentage change in EBIT)

Suppose you find a FINLEV of 1.39 for a firm, this then means that a 100% increase in the EBIT (=operating income, operating earnings) of the firm will result in a 139% in the EPS.

Disadvantages of Financial Leverage

  • FINLEV is a two-edged sword: it also multiplies losses!
  • Companies that are highly financially leveraged may be at risk of bankruptcy if they are unable to make payments on their debt; they may also be unable to find new lenders in the future.

In debt contracts, the borrower may be obliged to maintain certain levels of gearing. Such clauses are called Affirmative Debt Covenants.

Special Interest Group

Financial Leverage Special Interest Group.

Special Interest Group (443 members)


Forum about Financial Leverage. Below you can ask a question about this topic, share your experiences, report a new development, or explain something.

Start a new topic about Financial Leverage


Financial Leverage Seen from the Borrower's Perspective
The article focuses on the borrower's point of view only. But if we examine the lender's perspective, we see that the borrower helps him to utilize his idle fund and helps converting it to an interes...
🔥 NEW Financial Leverage is Influenced by Tax Deductibility
It is true that financial leverage could be used to magnify the rate of return on shareholders' equity as a result of the tax deductibility of interest payments. The beauty of the extent to which fi...
Accounting Beta Definition
What is accounting beta?...
Characteristics of High Leveraged Industries
A highly geared industry will typically face high debt... I wonder, are there any other characteristics of such sectors?...

Best Practices

The best, top-rated topics about Financial Leverage. Here you will find the most valuable ideas and practical suggestions.

Expert Tips

Advanced insights about Financial Leverage. Here you will find professional advices by experts.

Information Sources

Various sources of information regarding Financial Leverage. Here you will find powerpoints, videos, news, etc. to use in your own lectures and workshops.

3 Minute Introduction to Financial Ratio Analysis: Why do it and What are the Main Types?

Types of Financial Ratios, Financial Ratio Analysis, Financial Ratio Types
Why financial ratio analysis? 1. To compare the financial health of (similar) companies (which one is doin...

Research Links

Jump to further research sources regarding Financial Leverage.













Special Interest Group

Do you know a lot about Financial Leverage? Become our SIG Leader and gain worldwide recognition as an expert.


Return to Management Hub: Finance & Investing

More on Management  |  Return to Management Dictionary


This ends our Financial Leverage summary and forum.

About 12manage | Advertising | Link to us / Cite us | Privacy | Suggestions | Terms of Service
2023 12manage - The Executive Fast Track. V16.1 - Last updated: 1-4-2023. All names of their owners.