A company is trying to decide on their use of operating and financial leverage f

Question

A company is trying to decide on their use of operating and financial leverage from among four choices. They can sell their product for $5 per unit. thier interedt expense is the interest rate times debt. their tax rate is 40%

how many units must the firm sell in order to have the same EBIT under option 1 and 2/

a. 50,000 b 100,000 c 150,000 d 200,000

What is their degree of combined leverage under. option 3 if they sell 80,000 units?

a. 1.33 b 1.54 c 1.82 d 2.25

Fixed Cost Variable Cost DEBT Interest Rate Equity 1 50,000 2.50 per unit 0 0 400,000 2 100,000 1.50 per unit 0 0 400,000 3 50,000 2.50 per unit 200,000 10% 200,000 4 100,000 1.50 per unit 200,000 10% 200,000

Explanation / Answer

a.

b.Degree of Combined Leverage is 1.54

EBIT will be same if 50000 units are sold Particulars Option 1 Option 2 Sales 5*x 5*x Less:Variable Expenses (2.5*x) (1.5*x) Contribution 2.5*x 3.5*x Less:Fixed Cost -50000 -100000 EBIT 2.5x-50000 3.5x-100000 2.5x-50000=3.5x-100000 x=50000 units

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