What is Degree of Financial Leverage (DFL)?
Degree of Financial Leverage shows how sensitive a company’s earnings (EBT or EPS) are to changes in operating income (EBIT) because of fixed interest costs.
A higher DFL means debt is magnifying both upside and downside: positive EBIT growth boosts returns to equity holders, while a downturn hits net income harder.
DFL ties directly into capital structure design, interest coverage, risk of covenant breaches, and ultimately the stability of ROE and valuation multiples.
Formula
In words, DFL tells you how many times faster earnings before tax (or EPS) move relative to a given percentage change in EBIT at the current level of interest expense.
Example
Assume a company reports EBIT of $300,000 and annual interest expense of $100,000.
Earnings before tax (EBT) are therefore $200,000 ($300,000 − $100,000).
Using the formula: DFL = 300,000 ÷ (300,000 − 100,000) = 300,000 ÷ 200,000 = 1.5×.
This means a 5% change in EBIT should translate into a 7.5% change in EBT (5% × 1.5).
If EBIT rises by 5%, it moves from \$300,000 to \$315,000.
Interest expense stays fixed at $100,000, so EBT becomes $215,000.
EBT increased from $200,000 to $215,000, a 7.5% rise — consistent with a DFL of 1.5×, signaling moderate financial leverage and leaving room to compare with operating leverage, DTL, and other leverage ratios on your dashboard.