This represents the extent to which a company’s costs of operating are fixed (rent, insurance, executive salaries) as opposed to variable costs (materials, direct labor). Leverage occurs because a company only increases its variable but not fixed costs. The ratio of the percentage change in operating income to the percentage change in sales or units sold measures the sensitivity of a firm’s profits to changes in sales volume. A firm using a high degree of operating leverage has a breakeven point at a relatively high sales level.
June 23, 2011