3. A firm’s product price is $50, and the firm sold 12,500 units. The variable cost is $29.60 per unit, and fixed operating costs are $200,000. Earnings before Interest and Taxes are $55,000. Earnings per Share are $1.38. Fixed interest expense is $10,000 per year, and the tax rate is 21%.
a. Compute the Degree of Operating Leverage. (5 points)
b. Compute the Degree of Financial Leverage. (5 points)
c. Compute the Degree of Total Leverage. (5 points)
d. A 6% increase in sales revenues is forecasted. Estimate the percentage change and dollar value of Earnings before interest and taxes. (5 points)
e. A 6% increase in sales revenues is forecasted. Estimate the percentage change and dollar value of Earnings per Share for next year. (5 points)
Selling price= $50
Units sold= 12500
Variable cost= $29.6
Fixed cost= $200000
EPS= $1.38
a: Sales= 50*12500 = 625000
Less: Variable costs = 29.6*12500 = 370000
Contribution = $255000
Less: Fixed cost= 200000
EBIT = $55000
Operating leverage= contribution / EBIT
= 255000/ 55000
=4.64 times
b: Financial leverage = EBIT/ (EBIT- Interest-Preferred Div/(1-T))
= 55000/ (55000-10000)
=1.22
c: Total leverage= Operating leverage x financial leverage
= 4.64*1.22
= 5.67
d : EBIT change= $15300 = 27.82%
e: EPS change= $0.47 = 34%
WORKINGS
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