Degree of Operating Leverage (DOL) What DOL Is and Why It Matters The Degree of Operating Leverage (DOL) measures how sensitive a company's operating income (EBIT) is to a change in sales. Firms with a higher proportion of fixed costs relative to variable costs have higher operating leverage, which amplifies the effect of sales changes on profits. DOL is used for forecasting, risk assessment, and scenario analysis. Key takeaways
* DOL quantifies the percent change in operating income resulting from a 1% change in sales.
* A high DOL indicates greater sensitivity of earnings to sales — more upside when sales rise, but more downside when sales fall.
* DOL is calculated at a specific sales level and is not a fixed constant for a company.
* Combine DOL with financial leverage to assess overall corporate risk and earnings variability.
How to calculate DOL Core definition:
* DOL = (% change in EBIT) / (% change in sales) Explore More Resources
Equivalent algebraic forms (at a given sales level):
DOL = Contribution Margin / Operating Income
where Contribution Margin = Sales − Variable Costs, and Operating Income = Contribution Margin − Fixed Costs.
DOL = (Sales − Variable Costs) / (Sales − Variable Costs − Fixed Costs) A practical forecasting rule:
* Approximate % change in EBIT ≈ DOL × % change in sales Explore More Resources
Example Company X:
Year 1 sales = $500,000; operating expenses = $150,000 → EBIT1 = $350,000
Year 2 sales = $600,000; operating expenses = $175,000 → EBIT2 = $425,000 Compute percent changes:
% change in sales = ($600,000 / $500,000) − 1 = 20.0%
% change in EBIT = ($425,000 / $350,000) − 1 ≈ 21.43% Explore More Resources
DOL = 21.43% / 20.0% ≈ 1.07 Interpretation: For each 1% change in sales, operating income changes by about 1.07% at this sales level — modest operating leverage. Explore More Resources
DOL versus Combined Leverage
* Degree of Financial Leverage (DFL) measures how sensitive earnings per share (or net income) are to changes in EBIT (often = EBIT / (EBIT − Interest)).
* Degree of Combined Leverage (DCL) = DOL × DFL and measures sensitivity of earnings (or EPS) to sales changes.
* High combined leverage means greater total risk because both operating and financing fixed costs magnify earnings volatility.
Limitations and practical tips
* DOL is level-dependent: it changes with sales volumes because contribution margin and operating income vary.
* Accurate classification of fixed vs. variable costs is critical; misclassification distorts DOL.
* DOL focuses on operating results; it does not account for taxes, interest, non-operating items, or cash-flow timing.
* Use DOL for scenario planning (best/worst-case sales outcomes) and to compare business models (capital-intensive vs. labor/variable-cost models), but avoid cross-company comparisons without adjusting for scale and cost structure.
Conclusion DOL is a straightforward, useful metric for understanding how a company’s operating income responds to changes in sales. It highlights the trade-off between fixed-cost-driven profit amplification and increased risk. For a complete picture of earnings sensitivity, combine DOL with financial-leverage measures to assess overall exposure to sales volatility. Further reading
* Block, S., Hirt, G., & Danielsen, B. — Corporate Finance Foundations (Global Edition)
* Bragg, S. M. — Business Ratios and Formulas: A Comprehensive Guide