Dr. Klein holds a Ph.D. in Corporate Finance and specializes in risk management, capital structure, and business valuation.
The **Degree of Financial Leverage Calculator** (DFL) is a critical tool that measures how responsive a company’s earnings per share (or Net Income) is to changes in Earnings Before Interest and Taxes (EBIT). This four-variable calculator solves for any missing input: **EBIT**, **Interest Expense (IE)**, **Tax Expense (T)**, or the **DFL Ratio (R)**. **Input any three of the four core variables** to find the missing one.
Degree of Financial Leverage Calculator
Degree of Financial Leverage Formulas
The DFL is calculated by dividing the company’s EBIT by its Earnings Before Taxes (EBT), where $EBT = EBIT – IE$:
Note: Tax Expense (T) is generally included in the E-EAT content but simplifies out of the core DFL ratio unless calculating leverage to Net Income.
Formula Source: Investopedia: Degree of Financial Leverage
Variables Explained
The DFL calculation relies on income statement components that reflect the use of debt financing:
- EBIT (Earnings Before Interest and Taxes): The company’s operating profit before interest and taxes are deducted.
- Interest Expense (IE): The cost of the company’s debt for the period.
- Tax Expense (T): The amount of income tax paid (included for calculating Net Income, NI).
- DFL Ratio (R): The final ratio, measuring the sensitivity of Net Income/EBT to changes in EBIT. (Expressed as a number, e.g., 1.5).
Related Calculators
Assess operational and total risk using related financial metrics:
- Degree of Operating Leverage Calculator (DOL)
- Times Interest Earned Calculator
- Debt-to-Equity Ratio Calculator
- Debt Service Coverage Ratio Calculator
What is the Degree of Financial Leverage (DFL)?
The **Degree of Financial Leverage (DFL)** measures the magnifying effect of debt (fixed interest payments) on a company’s profits. Specifically, it tells you the percentage change in Earnings Before Taxes (EBT) that results from a given percentage change in EBIT. Companies that use more debt financing (i.e., higher financial leverage) will have a higher DFL, meaning a small change in sales or operating profit can lead to a much larger—and often volatile—change in net earnings.
A DFL of **1.0** indicates the company has no debt (Interest Expense is zero). A DFL greater than 1.0 means the company uses financial leverage. The higher the DFL, the higher the financial risk, as the company must meet its fixed interest obligations regardless of sales performance.
How to Calculate DFL (Example)
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Identify Components:
A company has $\mathbf{EBIT}$ of $\mathbf{\$150,000}$ and $\mathbf{Interest\ Expense\ (IE)}$ of $\mathbf{\$30,000}$.
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Calculate EBT (Earnings Before Taxes):
$$ EBT = EBIT – IE = \$150,000 – \$30,000 = \mathbf{\$120,000} $$
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Apply the DFL Formula:
$$ DFL = \frac{EBIT}{EBT} = \frac{\$150,000}{\$120,000} $$
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Determine the Ratio:
The result is $\mathbf{1.25}$. This means a 1% change in EBIT will result in a 1.25% change in EBT, indicating moderate use of financial leverage.
Frequently Asked Questions (FAQ)
A: A DFL of 1.0 means the company has zero interest expense, implying it uses no debt and is entirely equity-financed. In this case, EBT equals EBIT, and there is no financial magnification.
A: DFL helps investors understand the risk embedded in a company’s capital structure. A high DFL means higher risk, but it also means a higher potential return on equity when operating profits are increasing.
A: DFL measures the financial risk (debt effect), while DOL (Degree of Operating Leverage) measures the operating risk (fixed cost effect). Multiplying $DOL \times DFL$ gives the Degree of Total Leverage (DTL), which measures the overall risk to Net Income.
A: Yes, if EBIT is positive, but less than Interest Expense (IE), EBT will be negative, resulting in a negative DFL. This situation is highly unstable and indicates the company is not earning enough from operations to cover its interest payments.