In enterprises, questions of regulating the dynamics of profit in managing financial resources are in one of the first places. As a result of the volume of output and changes in the cost structure, the operating leverage makes it possible to evaluate all the economic benefits.
The concept of leverage, or operating leverage, is associated with the structure of cost and, in particular, with a certain ratio of conditionally variable and conditionally constant costs. If you consider the cost structure in this aspect, you can achieve a lot. Firstly, due to a certain reduction in costs with an increase in sales, namely physical, it is much easier to solve a problem such as maximizing profits. Secondly, the allocation of all costs to conditionally variable and constant makes it possible to talk about payback and allows you to calculate how large the financial safety margin of a given enterprise is in case of any market complications or difficulties of varying complexity. And finally, thirdly, it allows you to calculate the decisive volume of sales, fully covering all costs, as well as ensuring the operation of the enterprise without losses.
Operational or production leverage is a kind of process by which the liabilities and assets of a given enterprise are managed. Leverage is aimed at increasing profit margins, that is, at the same time, operating leverage is a factor, the smallest change of which will necessarily lead to a significant, significant change in the effective indicators.
The production lever or operational leverage is a certain mechanism that is based on optimizing the ratio of variables and fixed costs, as well as managing the entire profit of the enterprise. Knowing all the work of the operating leverage, one can easily predict what the change in the company's profit will be if the revenue changes, and also determine exactly the point at which the company will operate break-even activities.
Operational leverage is another management accounting tool used as a tool for controlling profit, a tool for the impact of cost grouping policies to reflect the impact of changes in increased sales on profits. Thanks to him, there is a significant increase in sales.
The three main components of operating leverage are: price, its variables and fixed costs. All of them are to some extent related to sales, changing them, you can have a significant impact on it.
A prerequisite for the use of operating leverage is the use of margin analysis and clear cost management.
When conducting the analysis, it is necessary to clearly and clearly present the following aspects:
- firstly, the change in fixed costs necessarily changes the location of the breakeven point of the enterprise, but at the same time, does not change the size of the so-called marginal income;
- secondly, any change in variable costs by only one unit of production changes the marginal income and the position of the breakeven point;
- thirdly, a parallel change in variables and fixed costs, and even in the same direction, will necessarily cause a strong change in the position of the breakeven point;
- fourthly, a change in price changes the location of the breakeven point and marginal income.
Production leverage is, at the same time, an indicator that helps managers to choose the most optimal strategy, which they subsequently use in managing the company's profit and its costs.
Varying the effect of production leverage depends on changes in the share of fixed costs. After all, the lower the proportion of the share of constant costs in their total amount, the higher the degree of change in the amount of profit in relation to the rhythms of changes in specific revenue of the enterprise.
In certain cases, the manifestation of the mechanism of production leverage has a number of features:
- the manifestation of the positive impact of production leverage begins only after the enterprise breaks the breakeven point;
- the effect of production leverage decreases gradually as sales grow and the breakeven point is completely removed;
- there is a reverse orientation of the mechanism of production leverage;
- between the profit of the enterprise and production leverage there is an inverse relationship;
- the manifestation of the effect of production leverage is possible only in a short period.
Understanding the structure and functioning of the mechanism of operational leverage makes it possible to purposefully manage fixed and variable costs in order to increase the level of efficiency of a particular enterprise. This management means a change in the value of leverage strength with different market trends, stages and stages of the life cycle of a given company.
In the event of an unfavorable situation on the commodity market or in the early stages of the enterprise’s functioning, its policy should be aimed as much as possible at reducing the strength of the operating leverage by saving on fixed costs.
If the conjuncture of the current market is favorable and suitable in all respects, and the safety margin is significant, then the implementation of the constant cost saving regime can be significantly weakened. During such periods, the company is able to expand its real investment by modernizing its main production assets.
It should be noted that fixed costs lend themselves to rapid change to a lesser extent, so many enterprises that have significant leverage are losing flexibility in managing the costs of their enterprise. As for variable costs only, the basic rule or principle of managing these costs is to realize their constant, continuous savings, which guarantees an increase in sales.