operating leverage

Operating Leverage

A measurement of the degree to which a firm or project relies on fixed rather than variable costs.

Notes:

The higher the degree of operating leverage, the greater the potential danger from forecasting risk. That is, if a relatively small error is made in forecasting sales, it can be magnified into large errors in cash flow projections. If the majority of costs for a company or project are fixed, then the costs will remain high while sales are dropping.

See also: Cash Flow, Fixed Cost, Leverage, Variable Cost

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Operating leverage

Fixed operating costs, which are characterized as leverage because they accentuate variations in profits.

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operating leverage

The extent to which fixed operating costs magnify changes in sales or revenues into even greater proportionate changes in operating income. For example, a company that substitutes robots or other machinery for laborers also substitutes fixed costs for variable costs and increases its operating leverage. High operating leverage tends to produce volatile earnings. Compare financial leverage.