Example of Financial Leverage

Financial leverage consists of controlling large amounts of money with a small amount, thanks to the financial instruments that exist today. When we want to buy an amount of 1,000,000 pesos in the market and we do not have that capital, or we do not want to pay that amount, we go to the banks. They will negotiate that money in the market, but in return you will deposit a margin of risk coverage with them, and second, they will seek compensation for providing the service.

In general, when a client requires obtaining an exchange rate, these institutions will apply margins slightly higher than what they are actually having access to. For example, if we want to buy dollars against the Mexican peso, we know that the market price is 11.50 pesos for every dollar. In general, a bank or a broker will apply a margin in the price equivalent to the interest rate differential between the dollar and the peso. This margin will vary according to the variations that exist between the interest rates of the different countries. However, these applied margins will hardly be less, depending on the situation, than one cent in the peso and no more than two or three basis points with the rest of the currencies. These margins will be equivalent to the interest rates that the banks are failing to obtain for lending their money to you to negotiate in the market.

Leverage: level of indebtedness of an organization in relation to its assets. It is measured as the ratio of debts to equity.

(Long-term liability + Preferred capital)
(Long-term liability + Preferred capital = Common capital)

Financial leverage: level of indebtedness of an organization in relation to its assets or equity. It consists of the use of debt to increase the expected profitability of equity capital. It is measured as the ratio of long-term debt to long-term debt plus equity.

% Increase UPAC = TIMES
% Net Profit Increase

Operating leverage: fixed operating costs, accentuate the variability of profits.