CC BY
65УДК: 38.03.01
ВЛИЯНИЕ ПОКАЗАТЕЛЯ ФИНАНСОВОГО ЛЕВЕРИДЖА НА ЭФФЕКТИВНОСТЬ ФИНАНСОВО-ХОЗЯЙСТВЕННОЙ ДЕЯТЕЛЬНОСТИ КОМПАНИИ
Шевелёв Р.А., магистр
Финансовый Университет при Правительстве Российской Федерации, Москва, Россия
Email: mr.ruslan.shevelyov@g,mial.com
Аннотация. В статье рассматривается показатель финансового левериджа как один из критериев оценки оптимальной структуры капитала и получения желаемого уровня рентабельности собственного капитала, при котором финансовая устойчивость предприятия не нарушается. Показано, что финансовый рычаг может оказать существенное влияние на финансовую стабильность компании, стоимость капитала, платежеспособность и рыночную стоимость компании.
Ключевые слова: финансовый рычаг, платежеспособность, теория компромисса, коэффициент покрытия процентов, эффект финансового рычага, Модель Дюпона
IMPACT OF FINANCIAL LEVERAGE ON A COMPANY'S
PERFORMANCE
Shevelyov R, master
Financial University under the Government of Russian Federation, Moscow, Russia Email: mr.ruslan.shevelyov@g,mial.com
Abstract. This article considers degree offinancial leverage as one of the criteria for evaluating the optimal structure of capital and obtaining the desired level of return on equity, in which the financial stability of the enterprise is not violated. It is shown that financial leverage can have a significant impact on company's financial stability, cost of capital, solvency and firm's market value.
Key words: financial leverage, solvency, trade-off theory, interest coverage ratio, degree of financial
leverage, DuPont Analysis
Financial leverage can be considered as the extent value, financial leverage will decrease equity and the
to which a firm utilizes preferred stock and debt firm's value. Over the long-term, this would lead to
securities in order to finance its operating activity and bankruptcy. Faster growing companies need more
growth, i.e. its capital structure. Corporate financial leverage because they need more capital on
management uses financial leverage to increase EPS hand. Companies in higher tax brackets tend to use
and ROE. more debt, and less profitable companies use more
The trade-off theory says that a firm's capital financial leverage because they do not generate
structure is optimized when the company achieves an enough funds on their own.
optimal balance between tax benefits that stem from The extent to which firms prefer to sustain the
usage of debt and costs of potential bankruptcy. given level of financial leverage can differ depending
Financial leverage adds a value to the company on the industry in which they operate or what type of
when it uses interest tax shield under the existing business they do. Such industries as retailers,
tax legislation. Financial leverage benefits to the firm marketing companies, airlines, banks and IT
when the firm's assets acquired with the use of debt companies have a high debt burden. However,
are able to earn more money than the relating cost of extremely high levels of financial leverage by firms
finance used to serve this debt. If the firm does not in such sectors may have an adverse impact on a
dispose enough taxable income to shield, or its company's sustainability and be a signal for potential
earnings from operations are lower than its critical bankruptcy.
Companies can use financial leverage ratios to assess its ability to meet its debt obligations, pay interest rates when financial liabilities come due the date of maturity comes. These ratios give the picture how a firm utilizes its debt and assesses its capital structure and compare a firm's debts against its assets. The most widespread ratios of financial leverage represent debt ratio, equity ratio, interest coverage ratio, and debt-to-EBITDA ratio. It is a good idea to measure a firm's leverage ratios against past performance and its competitors' performance and industry average to better understand the data.
The debt-to-equity ratio compares the company's debt to its stockholder equity. It is calculated as follows:
Debt-to-equity ratio = Total liabilities / Total equity2 (1)
A high level of debt-to-equity ratio indicates that a company has been aggressive in financing its growth with debt. This can result in volatile earnings and may increase the chances of a default or bankruptcy. Typically, a debt to equity ratio greater than two indicates a risky scenario for the investor, however, it can vary by industry. A figure of 0.5 or less is ideal. In reality, many investors tolerate significantly higher ratios.
Investors often use the interest coverage ratio. Rather than looking at the total sum of debt, the calculation factors in the actual cost of interest payments in relation to operating income (considered one of the best indicators of long-term profit potential). It is determined with this following formula:
Interest coverage ratio = Operating income / Interest expense3 (2)
In general, a ratio of three and above represents a sufficient ability to serve debt, although it varies from one industry to another. Because reliance on debt varies by industry, analysts usually compare debt ratios to those of direct competitors.
Debt-to-EBITDA ratio is an indicator of the debt burden on a firm's performance, its ability to repay its existing liabilities. As an indicator of the receipt of funds used for the calculation of company's debts, EBITDA represents profit before interest, taxes and amortization. It is believed that among other financial ratios EBITDA more or less accurately characterizes the inflow of funds. This ratio shows the company's solvency and is often used by both management and investors for evaluating publicly listed companies.
The ratio is calculated by the following formula: Debt-to-EBITDA ratio = Liabilities / EBITDA4 (3)
Entities in normal financial state show debt-to-EBITDA ratio less than three. Ratios higher than four or five usually set off alarms because they indicate that a company is likely to face difficulties in handling its debt burden, and thus is less likely to be able to raise additional loans required to grow and expand the business.
Corporate management uses short-term liquidity ratios in order to measure the ability of the company to meet its short-term obligations. Two of the most utilized liquidity ratios are the current ratio and acid-test. While the current ratio provides an aggregated risk metric, the acid-test ratio provides a better assessment of the composition of the company's current assets for purposes of meeting its current liability obligations since it excludes inventory from current assets.
The optimal level of current ratio is more than two. The value below one indicates a high financial risk and the company's inability to meet its debt obligations. A value of more than three may indicate a non-rational structure of capital. The quick ratio measures a company's ability to meet its short-term obligations with its most liquid assets, and therefore excludes inventories from the current assets. Companies with an acid-test ratio of less than one do not have the liquid assets to pay their current liabilities and should be treated with caution.
2 ReadyRatios (IFRS financial reporting and analysis software) URL: https://www.readyratios.com/reference/debt/long_term_d ebt_to_capitalization_ratio.html (accessed 10.06.2019)
3 My Accounting Course (accounting education site) URL:
https://www.myaccountingcourse.com/financial-ratios/interest-coverage-ratio (accessed 10.06.2019)
4 ReadyRatios (IFRS financial reporting and analysis software) URL:
https://www.readyratios.com/reference/debt/debt_ebitda_ ratio.html (accessed 11.06.2019)
Table 1 identifies what a financial risk the company bears with different levels of liquidity and company's financial gearing
Table 1 - Risk of bankruptcy of an enterprise with an increase in the share of borrowed capital
^^^^^ Quick ratio Financial leverage""^-^^ Low level Moderate level High level
High level High risk High Risk Moderate risk
Moderate level High risk Moderate risk Low risk
Low level Moderate risk Low risk Low risk
Source: Author's own study
Financial risk can be determined as the risk caused by growth of debt and preferred shares in a firm's capital structure. An increase in preferred shares and debt obligations lead to an increase in finance cost, which reduces earnings per share and increases the risk associated with stockholders. While making financing decisions on rising more debt, the firm should take in account the optimal level of capital structure in order to increase the firm's value.
Return on equity (ROE) is an indicator of net profit in comparison with the organization's own equity. This is the most important financial indicator for any investor, business owner, which shows how effectively the capital invested in the business was used. In contrast to the similar indicator "return on assets", this indicator describes the efficiency of using not the entire capital (or assets) of an organization, but only that part of it that belongs to the owners of the enterprise. It is determined as the following formula:
ROE = Net income / Shareholders' equity5 (4)
DuPont's formula is a widespread methodology, which calculates the key performance indicator -return on equity (ROE) - through three conceptual components: return on sales, asset turnover and financial leverage. Dupont's formula includes three factors that affect the return on equity: operational efficiency (return on sales at net profit), efficiency of
use of all assets (asset turnover), the ratio of own and borrowed capital (financial leverage);
In cases when the organization has unsatisfactory return on equity, the Du Pont Formula helps to identify which of the factors led to this result. The DuPont method sets a quantitative relationship between net income and owner's equity, where stronger performance can be achieved by a higher multiple. The formula for ROE in accordance with DuPont method is calculated as follows:
ROE = Net profit margin x Asset turnover x Equity multiplier = (Net Income / Sales) * (Sales / Assets) * (Assets / Shareholders' equity) 6 (5)
DuPont method shows that a firm can enhance ROE by increasing the firm's profit margin, operating efficiency, or by rising the amount of debt in capital structure.
The degree of financial leverage is an indicator reflecting the change in return on assets, obtained through the use of borrowed funds and is calculated by the following formula and expressed in percentage:
DFL = (1-T) * (ROA-r) * D/E7, (6) where T - corporate income tax rate, in relative terms; ROA - return on assets, in %; r - interest rate on borrowed funds, in %; D - debt capital; E - equity capital.
5 Corporate finance institute (CFI) URL: https://corporatefinanceinstitute.com/resources/knowledg e/finance/what-is-return-on-equity-roe/ (accessed 12.06.2019)
6 Site of Meaden & Moore URL:
https://blog.meadenmoore.com/blog/how-to-calculate-
return-on-equity-with-a-dupont-analysis (accessed
12.06.2019)
7 Site of afdanalyse.ru (analysis of the financial data of the company) URL:
http://afdanalyse.ru/publ/finansovyj_analiz/1/ehffekt_fina nsovogo_rychaga/7-1-0-222 (дата обращения 15.06.2019)
The degree of financial leverage appears in the difference between the cost of debt and ROA, which allows to increase the return on equity and reduce financial risks. The positive degree of financial leverage is based on the fact that the banking rate in a normal economic environment is lower than the return on investment. The negative degree of financial leverage appears when the return on assets falls below the loan rate, which leads to an accelerated formation of losses. The degree of the leverage is a product of two components, adjusted for the tax multiplier (1 - t), which shows the extent to which the degree of financial leverage has an effect in relation to the different level of corporate income tax.
One of the main components of the formula is the differential of financial leverage (Dif) or the difference between the return on assets, calculated with EBIT, and the interest rate on borrowed funds. The differential of financial leverage is the main condition that generates an increase in the return on equity. That is why, it is necessary for the return on assets to exceed the interest rate on borrowed funds. If the differential becomes less than zero, the degree of financial leverage will only act to the detriment of the organization. The second component of the degree of financial leverage is the financial leverage (FLS), defined as the ratio of debt capital (D) to equity (E). Thus, the degree of financial leverage is made up of the influence of two components: the differential and financial leverage.
Differential and financial leverage are closely interconnected. As long as the return on assets exceeds the cost of debt, that is, the differential is positive, the return on equity will grow the faster, the higher the ratio of borrowed funds and equity. However, as the share of borrowed funds grows, the cost of debt grows, the profits begin to decline, as a result, the return on assets also falls and, therefore, there is a threat of obtaining a negative differential.
According to economists' estimates, based on the study of empirical material of successful foreign companies, the optimal degree of financial leverage is within 30-50% of the level of return on assets (ROA) with the financial leverage of 0.67- 0.54. In
this case, there is an increase in the return on equity, which becomes not lower than the increase in the return on assets. The degree of financial leverage contributes to the formation of a rational structure of the sources of enterprise funds with the aim of financing the necessary investments and obtaining the desired level of return on equity, in which the financial stability of the enterprise is not violated.
To sum up, financial managers use the level of financial leverage in order to improve the firm's performance and maximize its ROE. However, a higher level of financial leverage increases variability in company's earnings and costs of potential bankruptcy, deteriorating liquidity position and increasing financial risks. While making financing decisions, the management of a company should consider the company's business risk, its tax position, financial sustainability and the current level of debt in order to achieve the most optimal level of capital structure and maximize the firm's wealth.
References
[1] Ласкина Л.Ю. Финансовый леверидж и его детерминанты // Научный журнал НИУ ИТМО. Серия «Экономика и экологический менеджмент». - 2012. - №2 (11).
[2] Corporate finance institute (CFI) URL: https://corporatefinanceinstitute.com (дата обращения 15.06.2019)
[3] Kenneth Eades, Michael J. Schill. The cost of capital: principles and practice. Technical note published by HBR, 2014, p. 39
[4] Koller, T., Goedhart, M. & Wessels, D. Valuation measuring and managing the value of companies, 5th edition. New Jersey: McKinsey & Company, 2015
[5] Karen Firestone. Understanding financial leverage. Article by Harvard Business Review, 2012
[6] Korzh Natalia. The evolution of capital structure theories and their classification // Socio-economic problems and the state, 2015, p.182-189
[7] My Accounting Course (accounting education site) URL: https://www. myaccountingcourse.com (accessed 12.06.2019)
[8] ReadyRatios (IFRS financial reporting and analysis software) URL: https://www.readyratios.com (accessed 12.06.2019)
[9] Site of Meaden & Moore URL: https://blog.meadenmoore.com (accessed 12.06.2019)
[10] Thomas Reuters Business Article on Debt and Equity Finance, 2016, p.2
[12] Невежин В.П. Подходы к формированию показателей инвестиционной привлекательности/ Хроноэкономика. 2017. № 4 (6). С. 11-15.
[
====================================== у у ==================================
