Why you should check out a company’s operational gearing before investing

Julie Brownlee, Fsp Invest, 30 Jun. 2015

Tags: operational gearing, what is operational gearing, how to use operational gearing, investing, profitability,

When finding shares to invest in, there are a number of things you need to delve into before you buy.

One thing you should be checking is operational gearing.

So what is operational gearing? What difference does operational gearing make? And how can I check a company’s operational gearing?

Read on to find out…

What is operational gearing?

Operational gearing is how sensitive a company’s trading profits are to fluctuations in its turnover.

Companies have costs. Depending on the type of business the company is in, costs will differ.

Some companies have high fixed costs. A company must pay these costs regardless of the money it makes. Fixed costs include rent for property and salaries for staff.

Companies with high fixed costs tend to have higher operational gearing than companies with more variable costs.

As the name suggests, variable costs change. They go up and they go down.

Let’s look at an example to show the impact of operational gearing on a company with high costs.

High operational gearing can be dangerous

Company ABC makes sales worth R200 million. Its fixed costs come in at R160 million. And its variable costs are R20 million.

This gives you a trading profit of R20 million (R200 million – R160 million – R20 million).

If sales rise by 10%, they come in at R220 million. Fixed costs stay the same. Variable costs rise in line with sales to R22 million.

This leads trading profit to rise to R38 million (R220 million – R160 million – R22 million). That’s a 90% increase in trading profits.

But if sales fall 10% to R180 million, trading profits fall to R2 million (R180 million – R160 million – R18 million).

It’s worthwhile checking a company’s operational gearing out before investing.

When times are good, investing in a company with high operational gearing is profitable. But when times are tough, a company with high operational gearing can struggle.

So there you have it. Why you should check out a company’s operational gearing before investing.

*********** Recommended Product ************

Isn’t it about time you found a business opportunity that really works?

With the right business plan you really CAN achieve all those fundamental changes to your quality of life… To spend more time with your family, take those holidays you always dreamed of and yes, never have to work for someone else ever again…

I’m not going to pretend making R130,000 or more from scratch is as simple, but nor is it something that’s beyond reach for anyone who is prepared to exchange some honest time and effort in making it work.

If you have what it takes, click here and I will guide you every step of the way…


Related QA

d.c.heger asked:
MY QUESTION IS – I bought Bitcoin & Etherium some time ago – at first they grew nicely but now they are lower than what I paid for them. Should I [read more]
Published at 04 Apr. 2018 in: Investing 5 shares due to rocket 1 Answer
kavesh.maharaj.73 asked:
Hi Josh. I would like some advice on TFSA. I can get an interest rate of 7.8% nominal at a bank if I invest the R33k upfront in a fixed deposit [read more]
Published at 19 Mar. 2018 in: Investing Tax free savings vehicle 2 answers
kavesh.maharaj.73 asked:
Hi Josh Quantum wants to buy back shares from shall investors at what I think is a low price of around R3.86. You tipped the share in February [read more]
Published at 14 Mar. 2018 in: Investing Real wealth 5 answers
elizastrydom asked:
Hi Timon I am interested in registering for your Red Hot Storm Trader service. I am already a Red Hot Penny Shares investor. My question is [read more]
Published at 28 Feb. 2018 in: Investing Trading platform and broker 1 Answer
ManuE asked:
I have an interest in investing in Bitcoin, I just don't know how. If I buy Bitcoin with R15 000, how much can make (Return On Investment)? [read more]
Published at 25 Feb. 2018 in: Investing Investment 1 Answer

Related articles:




Youtube Twitter Facebook

Connect with us:    

  • Accelerated Investor