| by Flemming Funch|
Leverage is an interesting subject. This is what Wikipedia says it is:
Leverage is a factor by which lever multiplies a force - it is therefore related to mechanical advantage. The useful work done is the energy applied, which is force times distance. Therefore a small force applied over a long distance is the same amount of work as a large force applied over a small distance. The trick is converting the one into the other. The requisite mathematics was developed in the third century B.C. by Archimedes.
OK, so a mechanical principle for applying a great force, using a smaller force, but multiplied, like by applying it over a longer distance. There's also the financial definition:
The simplest device for creating leverage is the lever. A lever is a stick which rests on a fulcrum near one end. When you push the long end of the stick down a long ways, the short end moves a small distance up with great force. With this device a man can easily lift several times his own weight.
Other common devices that achieve leverage include the wrench, various pulley arrangements, a jack, and hydraulic brakes.
In finance, leverage (or gearing) is using given resources in such a way that the potential positive or negative outcome is magnified. It generally refers to borrowing.
OK, so you have some kind of profit giving activity going, and you borrow other people's money to fuel it, and thus get much higher profits. That's actually a quite different principle from the mechanical leverage, because you don't yourself provide all the energy that goes into it, you get somebody else to provide it.
Financial leverage takes the form of a loan or other borrowings, the proceeds of which are reinvested with the intent to earn a greater rate of return than the cost of interest. If the firm's return on assets (ROA) is higher than the interest on the loan, then its return on equity (ROE) will be higher than if it did not borrow. On the other hand, if the firm's ROA is lower than the interest rate, then its ROE will be lower than if it did not borrow. Leverage allows greater potential return to the investor than otherwise would have been available. The potential for loss is also greater because if the investment becomes worthless, not only is that money lost, but the loan still needs to be repaid.
Doing more with less, that's really what we're talking about. How can you get the biggest possible result with the least possible investment of energy and resources. Ideally, the biggest possible positive result, but not necessarily.
It is obviously a key principle in business and economics. If you've managed to become rich, it is obviously because you've found some mechanism which will give you the biggest possible return while you're putting the most minimal amount of energy into it. There are certainly both positive and negative things to say about that. The greatest success in that regard would be if lots of people pay you enormous amounts of money for nothing. And if there's any work involved, the greatest success is if other people than yourself are doing it. And if there's any risk involved, very best if somebody else than you is taking it.
But the pure principle is a good thing, of course. Why wouldn't we want the most positive result possible, and why wouldn't we want it in the easiest and fastest possible way?
There's nothing particularly noble about doing a lot of hard work that gives very little result. Yet quite possibly most people live their lives like that. You go to school every day for 12 years, and forget most of what you learned. You go to work every day for 45 years, and do what you're expected to do. But what value have you really added to the world? Is it really the best use of your energy? Why not work less hard, but accomplish more, creating more real value? Why not do the very most with what you have?
So, how do you do that?
There's the financial leverage trick there. Borrow other people's money and do something with it that brings in more than it costs to borrow it. And there's the general business owner approach. Hire a bunch of people to do the work, and pay them less than it is worth. All of that of course requires that you have some kind of idea that works, i.e. that somebody pays money for whatever is produced. Although, if you distribute the risk to somebody else than yourself, you might get away with living nicely for some years off of borrowed money, despite producing nothing.
One approach to increased leverage is to develop a more narrow and directed focus. I.e. if you manage to do more precisely what you're aiming at doing, and which is valuable. A lightbulb produces light, but it also produces a lot of heat, so it isn't very efficient. We don't need the heat. So, if you invent a lightbulb that produces more light and less heat, you'll be getting more bang for the buck.
You'd be doing the same if you made a company more efficient. If you produce a certain kinds of widgets, and you have two people making the widgets, and 8 people doing office work, you might of course find how to reorganize things so that you have 8 people doing widgets, and 2 doing office work, and you're producing more with less.
Another way is to find synergies. Synergy is when you put some things together in a way that fits, so that the result is more than the sum of its parts. That could for example be that the waste products of one activity becomes the raw materials for another activity. It could be placing an activity that uses a lot of water in a place where there actually is a lot of water. It would be placing an activity that needs sunlight in a place that has lots of sun. Or, between people, it would be finding out that there are others who do things that fit very nicely with what you do, and you can establish a win-win relationship by cooperating with one another.
You can share information and avoid re-inventing the wheel several times. Lots of problems have already been solved, and if the information about how to solve them isn't secret, or isn't protected by unnecessary intellectual property rules, everybody can do more with less.
Open source software is of course an excellent example. Instead of keeping your solutions secret, you share them with anybody who's interested, and others might both use the same solutions, and they might improve upon them.
And there's the principle of going with the flow, using the existing circumstances and the existing momentum to get where you want to go. If you're in a sailboat and you want to go west, the best time to do so is probably when the wind blows west. If you're a surfer, you'll be going places if you watch for the right wave and you catch it when it is there.
I'm most interested in leverage in a human context. How can one person or a small number of people have the biggest possible positive effect in the world?
They can do so in part with ideas. Ideas are very portable and takes little energy to produce and distribute.
They can do so by being in the right place at the right time, noticing exactly in which direction the wind is blowing, and by catching the wave when it is there.
They can do so by inventing products or systems or memes that are what people want, and what they find exiting, but which they maybe didn't expect. If you come up with something that is cool and useful, which anybody can take away with them right away, you might find millions of people working for your cause very quickly.
Basically it is just very worthwhile to choose one's activities based on how much positive value you can create with them. Very few people do. But most remarkable people you can think of have done just that. Instead of just doing like everybody else, they've somehow come upon ways of creating much larger effects with the same efforts as everybody else. They don't have more hours in the day than you do, and they might even work less than you do. But they've applied their efforts in places where they would get more results, to do things that were more needed or wanted, in ways that were more efficient and productive. And in most cases they've done something that inspired or activated or coordinated the activities of large numbers of people. Even if they seem to do what they do alone. A top tennis player wouldn't be a famous and wealthy top tennis player unless he did something that millions of people would take time to sit and watch. No manufacturer of products would get anywhere unless large numbers of people felt like buying his products. No public leader of any kind would get anywhere unless large numbers of people went along with their program.
The interesting kind of leverage is basically just an idea that manages to find a resonance with great numbers of people. It might be an image or a product or a philosophy or a way of doing things, but it is always something, more or less mysterious, that finds and activates a synchronization or a synergy of some kind, between the originator and many other people, or between the originator and the universe.