All of them have high Operating Leverage!
Companies which incur relatively low incremental cost of serving additional customers have high operating leverage.
Such companies have a higher proportion of their overall costs as fixed (and have lower variable costs).
e.g., Netflix
After paying for large fixed costs such as content, licensing and tech infrastructure, the cost of serving additional subscribers is very low.
As the platform adds more and more subscribers, the incremental revenue from them largely flows to the bottom line leading to margin expansion.
Having high fixed costs is a double edged sword.
A decline in subscribers leads to margin erosion — this is called Operating De-leverage.
But companies do not break up costs as fixed and variable. Then, how do you identify fixed and variable costs?
Typically, cost of goods sold or cost of services are variable and operating expenses R&D and SG&A in the P&L are a good proxy for fixed costs.
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Explanation of operating leverage in this short video!
What do Airlines, Utilities, Telecom, Hotels, Resorts, Movie theaters and Technology companies have in common?
Gautam is the passionate equity researcher and instructor at Invest and Rise
80 responses
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