What is the best leverage for an investment?

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#InvestorQuestions

Good question.

The best leverage is infinite leverage if you are the buyer. If you are the seller or the banker involved you want to have the borrower make a huge down payment that represents a large percentage of the purchase price as possible.

Let’s take the example of you buying an asset with a seller supplying financing that costs 1,000,000 and the down payment to secure financing is 100,000.

To calculate leverage you perform the following calculation:

Leverage = (Total Debt) / (Total Equity)
= (900,000) / (100,000) = 9.

In this example, you have obtained 1:9 leverage.

Now let’s describe the same deal but you only have to put down instead of 100,000, but only 10,000.

Leverage = (990,000) / (10,000) = 99.

In this example, you have obtained 1:99 leverage.

Now, let’s say you could structure the same deal where you only had to put down $1.

Leverage = (999,999) / (1) = 999,999.

In this example, you have obtained 1:999,999 leverage.

If you can now find a way to structure the deal where you put down nothing or you actually get paid cash when the deal closes, you have achieved infinite leverage.

In general from a banker’s perspective, the more leverage your borrower uses on a deal, the riskier the deal is for the seller supplying financing since he has less money to lose if the deal fails. However, from a borrower’s perspective, the more leverage you use, the better the deal is.

I hope that helps and good luck with your investing!

Benjamin Z Miller
www.benjaminzmiller.com