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Problem #1 (22 marks)
You have developed the following income statement for your corporation which represents the most recent years operations which ended yesterday.
| Sales | $45,750,000 |
| Variable Costs | -22,800,000 |
| Gross Profit | $22,950,000 |
| Fixed Costs | -9,200,000 |
| Depreciation | -4,000,000 |
| EBIT | $9,750,000 |
| Interest | -1,350,000 |
| EBT | $8,400,000 |
| Tax 40% | -3,360,000 |
| Net Income | $5,040,000 |
| Shares Outstanding | 2,000,000 |
| EPS =Net income / # shares | $2.52 |
Your supervisor in the controllers office just handed you a memo asking for written responses to the following questions.
- Calculate the degree of operating leverage for the firm. (2 marks). Please round your final answer to 2 decimals.
- Calculate the degree of financial leverage for the firm. (2 marks). Please round your final answer to 2 decimals.
- Calculate the degree of combined leverage for the firm. (2 marks). Please round your final answer to 2 decimals.
- If the company is able to increase their sales by 25%, what percentage increase in EBIT would you expect to observe? (2 marks)
- If the company is able to increase their sales by 25%, what percentage increase in EPS would you expect to observe? (2 marks)
- If the sales increase by 25%, what will the new EPS be? (2 marks)
- If the companys sales decrease by 25%, what will the new EPS be? (2 marks)
- If EBIT increases by 5%, what will the new EPS be? (2 marks)
- If the company were to reduce its reliance on debt financing such that interest expense were cut in half, how would this affect your answer to:
- part (d)? (1 mark)
- part (e)? (3 marks)
If the companys sales decrease by 7%, what will the new EBIT be? (2 marks)
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