Question

The Poseidon Swim Company produces swim trunks. The average selling price for one of their swim trunks is $66.74. The variable cost per unit is $19.78, Poseidon Swim has average fixed costs per year of $9,202. Assume that current level of sales is 469 units. What will be the resulting percentage change EBIT if they expect units sold to change by 1.4 percent.

Answer 1

Step-1, Calculation of Degree of Operating Leverage

Income Statement
Sales [469 x $66.74]	$ 31,301.06
Less: Variable Costs [469 x 19.78]	$ 9,276.82
Contribution Margin	$22,024.24
Less: Fixed Costs	$9,202.00
Net Operating Income	$12,822.24

Degree of Operating Leverage = Contribution Margin / Net Operating Income

= $22,024.24 / $12,822.24

= 1.72

Step-2, Percentage change EBIT

Percentage change EBIT = Degree of Operating Leverage x Percentage change in sales

= 1.72 x 1.40%

= 2.40%

“If the sales changed by 1.40 Percent, then the Earnings Before Interest & Tax (EBIT) will change to the extent of 2.40 Percent”