Professional Documents
Culture Documents
100
F. The break-even point in sales dollars
1. It is convenient to calculate the break-even point in terms of sales
dollars if the firm deals with more than one product. It can be
computed by using data from the firm's annual report.
2. Since variable cost and selling price per unit are assumed constant,
the ratio of total variable costs to total sales is a constant for any level
of sales.
G. Limitations of break-even analysis
1. Assumes linear cost-volume-profit relationship.
2. The total revenue curve is presumed to increase linearly with the
volume of output.
3. Assumes constant production and sales mix.
4. This is a static form of analysis.
III. Operating Leverage
A. Operating leverage is the responsiveness of a firm's EBIT to fluctuations in
sales. Operating leverage results when fixed operating costs are present in
the firm's cost structure.
B. This responsiveness can be measured as follows:
level sales base
the from leverage
operating of degree
= DOL
s
=
sales in change %
EBIT in change %
C. If unit costs are available, the DOL can be measured by
DOL
s
=
F V) Q(P
V) Q(P
,
_
S
VC
1
F
=
,
_
$250,000
$151,100
1
50,000
=
.4
50,000
= 125,000
104
15-2A. Break-even Quantity = Q
B
Q
B
=
V) (P
F
Q
B
=
(.70)($30) - $30
$360,000
Q
B
= 40,000 bottles
15-3A. Degree of Operating Leverage = DOL
S
DOL
S
=
F] V) [Q(P
V) Q(P
DOL
S
= 5 times
15-4A.
(a)
Jake's Sarasota Jefferson
Lawn Chairs Sky Lights Wholesale
Sales $600,640.00 $2,450,000 $1,075,470
Variable Costs $326,222 .60 $1,120,000 $957,000
Revenue before
fixed costs $274,417.40 $1,330,000 $118,470
Fixed costs $120,350 .00 $850,000 $89,500
EBIT $ 154,067 .40 $ 480,000 $ 28,970
(b)
Jake's Lawn Chairs: Q
B
=
V P
F
=
38 . 17 $ 32 $
350 , 120 $
=
62 . 14 $
350 , 120 $
= 8,232
Sarasota Skylights: Q
B
=
400 $ 875 $
000 , 850 $
=
475 $
000 , 850 $
= 1,789
Jefferson Wholesale: Q
B
=
87 $ 77 . 97 $
500 , 89 $
=
77 . 10 $
500 , 89 $
= 8,310
(c)
Jake's Sarasota Jefferson
Lawn Chairs Skylights Wholesale
105
EBIT
Costs Fixed
Before Revenue
=
40 . 067 , 154 $
40 . 417 , 274 $
$480,000
$1,330,000
970 , 28 $
470 , 118 $
= 1.78 times 2.77 times 4.09 times
(d) Jefferson Wholesale, since its degree of operating leverage exceeds that of
the other two companies.
15-5A.
(a)
EBIT
Costs Fixed Before Revenue
=
000 , 750 , 13 $
000 , 950 , 22 $
= 1.67 times
(b)
I EBIT
EBIT
=
000 , 350 , 1 $ 000 , 750 , 13 $
000 , 750 , 13 $
=
000 , 400 , 12 $
000 , 750 , 13 $
= 1.11 times
(c) DCL
45,750,000
= (1.67) (1.11) = 1.85 times
(d) S* =
S
VC
1
F
=
000 , 750 , 45 $
000 , 800 , 22 $
1
000 , 200 , 9 $
=
498 . 1
000 , 200 , 9 $
=
502 .
000 , 200 , 9 $
= $18,326,693.23
(e) (25%) (1.85) = 46.25%
15-6A.
(a) Q
B
=
V P
F
=
58 $ 85 $
000 , 170 $
=
27 $
000 , 170 $
= 6,296 pairs of shoes
(b) S* =
S
VC
1
F
=
85 $
58 $
1
000 , 170 $
=
682 . 1
000 , 170 $
=
318 .
000 , 170 $
= $534,591.20
(c)
7,000 9,000 15,000
Pairs of Shoes Pairs of Shoes Pairs of Shoes
Sales $595,000 $765,000 $1,275,000
Variable Costs 406,000 522,000 870,000
Revenue before
fixed costs $189,000 $243,000 $405,000
Fixed costs 170,000 170,000 170,000
EBIT $ 19,000 $ 73,000 $ 235,000
106
(d)
7,000 9,000 15,000
Pairs of Shoes Pairs of Shoes Pairs of Shoes
000 , 19 $
000 , 189 $
000 , 73 $
000 , 243 $
000 , 235 $
000 , 405 $
= 9.95 times 3.33 times 1.72 times
Notice that the degree of operating leverage decreases as the firm's sales level rises
above the break-even point.
15-7A.
(a) Q
B
=
V P
F
=
110 $ 180 $
000 , 630 $
=
70 $
000 , 630 $
= 9000 Units
(b) S* = 9000 units $180 = $1,620,000
Alternatively,
S* =
S
VC
1
F
=
180 $
110 $
1
000 , 630 $
=
6111 . 0 1
000 , 630 $
=
3889 .
000 , 630 $
= $1,619,954
Note: $1,619,954 differs from $1,620,000 due to rounding.
(c) 12,000 15,000 20,000
units units units
Sales $2,160,000 $2,700,000 $3,600,000
Variable Costs 1,320,000 1,650,000 2,200,000
Revenue before
fixed costs 840,000 1,050,000 1,400,000
Fixed costs 630,000 630,000 630,000
EBIT $ 210,000 $ 420,000 $ 770,000
(d) 12,000 units 15,000 units 20,000 units
000 , 210 $
000 , 840 $
000 , 420 $
000 , 050 , 1 $
000 , 770 $
000 , 400 , 1 $
= 4 times = 2.5 times = 1.82 times
Notice that the degree of operating leverage decreases as the firm's sales level
rises above the break-even point.
15-8A. (a)
107
Blacksburg Lexington Williamsburg
Furniture Cabinets Colonials
Sales $1,125,000 $1,600,000 $520,000
Variable costs 926,250 880,000 188,500
Revenue before
fixed costs $198,750 $720,000 $331,500
Fixed costs 35,000 100,000 70,000
EBIT $163,750 $620,000 $261,500
(b)
: Furniture
Blacksburg
Q
B
=
V P
F
=
35 . 12 $ 00 . 15 $
000 , 35 $
=
65 . 2 $
000 , 35 $
= 13,208
units
: Cabinets
Lexington
Q
B
=
220 $ 400 $
000 , 100 $
=
180 $
000 , 100 $
= 556 units
: Colonials
rg Williamsbu
Q
B
=
50 . 14 $ 00 . 40 $
000 , 70 $
=
50 . 25 $
000 , 70 $
= 2745 units
(c)
Blacksburg Lexington Williamsburg
Furniture Cabinets Colonials
EBIT
Costs Fixed
Before Revenue
750 , 163 $
750 , 198 $
000 , 620 $
000 , 720 $
500 , 261 $
500 , 331 $
= 1.21 times 1.16 times 1.27 times
(d) Williamsburg Colonials, since its degree of operating leverage
exceeds that of the other two companies.
15-9A.
(a) {S- (VC + F)} (1-T) = $50,000
( ) T 1 F
S
VC
S S
'
1
]
1
+
,
_
= $50,000
[S VC - } (1 T) = $50,000
{$375,000 - $206,250 F} (0.6) = $50,000
($168,750 - F) (0.6) = $50,000
F = $85,416.67
(b) Q
B
=
V P
F
=
85 . 14 $ 00 . 27 $
67 . 416 , 85 $
=
15 . 12 $
67 . 416 , 85 $
= 7,030 units
108
S* =
S
VC
1
F
=
55 . 1
67 . 416 , 85 $
= $189,815
15-10A.(a) Find the EBIT level at the forecast sales volume:
S
EBIT
= .26
Therefore, EBIT = (0.26) ($3,250,000) = $845,000
Next, find total variable costs:
S
VC
= 0.5,
so, VC = (0.5) $3,250,000 = $1,625,000
Now, solve for total fixed costs:
S - (VC + F) = $845,000
$3,250,000 - ($1,625,000 + F) = $845,000
F = $780,000
(b) S* =
5 . 0 1
000 , 780 $
= $1,560,000
15-11A.
(a)
EBIT
costs Fixed before Revenue
=
000 , 500 , 8 $
000 , 500 , 16 $
= 1.94 times
(b)
I EBIT
EBIT
=
000 , 500 , 7 $
000 , 500 , 8 $
= 1.13 times
(c) DCL
$30,000,000
= (1.94) (1.13) = 2.19 times
(d) S* =
S
VC
1
F
=
m
m
0 . 30 $
5 . 13 $
1
000 , 000 , 8 $
=
45 . 0 1
000 , 000 , 8 $
=
55 . 0
000 , 000 , 8 $
=
$14,545,455
(e) (25%) (2.19) = 54.75%
15-12A.Given the data for this problem, several approaches are possible for finding the
break-even point in units. The approach below seems to work well with students.
Step (1) Compute the operating profit margin:
109
Operating Profit Margin x Operating Asset Turnover = Return
on operating assets
(M) x (5) = 0.25
M = .05
Step (2) Compute the sales level associated with the given output level:
0 $20,000,00
Sales
= 5
Sales = $100,000,000
Step (3) Compute EBIT:
(.05) ($100,000,000) = $5,000,000
Step (4) Compute revenue before fixed costs. Since the degree of
operating leverage is 4 times, revenue before fixed costs
(RBF) is 4 times EBIT as follows:
RBF = (4) ($5,000,000) = $20,000,000
Step (5) Compute total variable costs:
(Sales) - (Total variable costs) = $20,000,000
$100,000,000 - (Total variable costs) = $20,000,000
Total variable costs = $80,000,000
Step (6) Compute total fixed costs:
RBF - Fixed costs = $5,000,000
$20,000,000 - fixed costs = $5,000,000
Fixed costs = $15,000,000
Step (7) Find the selling price per unit, and the variable cost per unit:
P =
000 , 000 , 10
000 , 000 , 100 $
= $10.00
V =
000 , 000 , 10
000 , 000 , 80 $
= $8.00
Step (8) Compute the break-even point:
Q
B
=
V P
F
=
) 8 ($ ) 10 ($
000 , 000 , 15 $
=
2 $
000 , 000 , 15 $
=
7,500,000 units
110
15-13A.
(a) Q
B
=
V P
F
=
126 $ 180 $
000 , 540 $
=
54 $
000 , 540 $
= 10,000 units
(b) S* =
S
VC
1
F
=
180 $
126 $
1
000 , 540 $
=
7 . 0 1
000 , 540 $
=
3 .
000 , 540 $
= $1,800,000
(c) 12,000 15,000 20,000
Units Units Units
Sales $2,160,000 $2,700,000 $3,600,000
Variable costs 1,512,000 1,890,000 2,520,000
Revenue before fixed costs $ 648,000 $ 810,000 $1,080,000
Fixed costs 540,000 540,000 540,000
EBIT $ 108,000 $ 270,000 $ 540,000
(d) 12,000 units 15,000 units 20,000 units
000 , 108 $
000 , 648 $
= 6 times
000 , 270 $
000 , 810 $
= 3 times
000 , 540 $
000 , 080 , 1 $
= 2 times
Notice that the degree of operating leverage decreases as the firm's sales level
rises above the break-even point.
15-14A.
(a) Oviedo Gainesville Athens
Seeds Sod Peaches
Sales $1,400,000 $2,000,000 $1,200,000
Variable costs 1,120,000 1,300,000 840,000
Revenue before fixed costs $280,000 $ 700,000 $ 360,000
Fixed costs 25,000 100,000 35,000
EBIT $ 255,000 $ 600,000 $ 325,000
(b) Oviedo Seeds: Q
B
=
V P
F
=
20 . 11 $ 00 . 14 $
000 , 25 $
=
80 . 2 $
000 , 25 $
= 8,929 units
Gainesville Sod: Q
B
=
130 $ 200 $
000 , 100 $
=
70 $
000 , 100 $
= 1,429 units
Athens Peaches: Q
B
=
50 . 17 $ 00 . 25 $
000 , 35 $
=
50 . 7 $
000 , 35 $
= 4,667 units
(c)
111
Oviedo Gainesville
Seeds Sod
000 , 255 $
000 , 280 $
= 1.098 times
000 , 600 $
000 , 700 $
= 1.167 times
Athens
Peaches
000 , 325 $
000 , 360 $
= 1.108 times
(d) Gainesville Sod, since its degree of operating leverage exceeds that of the
other two companies.
15-15A.
(a) {S - [VC + F]} (1 - T) = $40,000
( ) T 1 F
S
VC
S S
'
1
]
1
+
,
_
= $40,000
{($400,000) - ($160,000) - F} (0.6) = $40,000
($240,000 - F) (0.6) = $40,000
F = $173,333.33
(b) Q
B
=
V P
F
=
12 $
33 . 333 , 173 $
= 14,444 units
S* =
S
VC
1
F
=
40 . 0 1
33 . 333 , 173 $
= $288,888.88
15-16A.
(a) {S - [VC + F] } (1-T) = $80,000
( ) T 1 F
S
VC
S S
'
1
]
1
+
,
_
= $80,000
{($2,000,000) - (1,400,000) - F} (.6) = $80,000
($600,000 - F) (.6) = $80,000
$360,000 - .6F = $80,000
F = $466,666.67
(b) Q
B
=
V P
F
=
24 $
67 . 666 , 466 $
= 19,444 units
112
S* =
S
VC
1
F
=
7 . 1
67 . 666 , 466 $
=
3 .
67 . 666 , 466 $
= $1,555,555.57
15-17A.
(a) S (1 - 0.75) - $300,000 = $240,000
0.25S = $540,000
S = $2,160,000 = (P Q)
Now, solve the above relationship for P:
200,000 (P) = $2,160,000
P = $10.80
(b) Sales $2,160,000
Less: Total variable costs 1,620,000
Revenue before fixed costs $540,000
Less: Total fixed costs 300,000
EBIT $ 240,000
15-18A.
(a) S (1 - .6) - $300,000 = $250,000
.4S = $550,000
S = $1,375,000 = (P Q)
Solve the above relationship for P.
200,000 (P) = $1,375,000
P = $6.875
(b) Sales $1,375,000
Less: Total variable costs 825,000
Revenue before fixed costs $550,000
Less: Total fixed costs 300,000
EBIT $ 250,000
113
15-19A.
(a) First, find the EBIT level at the forecast sales volume:
= 0.28
So: EBIT = (0.28) $3,750,000 = $1,050,000
Next, find total variable costs:
= 0.5
So: VC = (0.50) $3,750,000 = $1,875,000
Then, solve for total fixed costs:
S - (VC + F) = $1,050,000
$3,750,000 - ($1,875,000 + F) = $1,050,000
F = $825,000
(b) S*
=
5 . 0 1
000 , 825 $
= $1,650,000
15-20A.
(a) Q
B
=
V P
F
=
150 $
000 , 180 $
= 1,200 units
(b) S* =
S
VC
1
F
=
70 . 0 1
000 , 180 $
= $600,000
(c) DOL
$2,500,000
=
000 , 180 $ ) 350 $ 500 ($ 000 , 5
) 350 $ 500 ($ 000 , 5
000 , 570 $
000 , 750 $
= 1.316 times
(d) (20%) x (1.316) = 26.32% Increase
114
15-21A.
(a) Q
B
=
V P
F
=
15 $ 25 $
000 , 50 $
=
10 $
000 , 50 $
= 5,000 units
(b) S* =
S
VC
1
F
=
25 $
15 $
1
000 , 50 $
=
6 . 0 1
000 , 50 $
=
4 .
000 , 50 $
= $125,000
(c) 4000 units 6000 units 8000 units
Sales $100,000 $150,000 $200,000
Variable costs 60,000 90,000 120,000
Revenue before fixed costs $ 40,000 $ 60,000 $ 80,000
Fixed costs 50,000 50,000 50,000
EBIT $-10,000 $ 10,000 $ 30,000
(d) 4000 units 6000 units 8000 units
000 , 10 $
000 , 40 $
= -4X
000 , 10 $
000 , 60 $
= 6X
000 , 30 $
000 , 80 $
= 2.67X
(e) The degree of operating leverage decreases as the firm's sales level rises
above the break-even point.
15-22A. Compute the present level of break-even output:
Q
B
=
V P
F
=
7 $ 12 $
000 , 120 $
= 24,000 units
Compute the new level of fixed costs at the break-even output:
S V F = 0
($12) (24,000) - ($5) (24,000) - F = 0
$288,000 - $120,000 - F = 0
$168,000 = F
Compute the addition to fixed costs:
$168,000 - $120,000 = $48,000 addition
115
15-23A. DOL
$360,000
=
000 , 120 $ ) 7 $ 12 ($ 000 , 30
) 7 $ 12 ($ 000 , 30
=
000 , 30 $
000 , 150 $
= 5 times
Any percentage change in sales will magnify EBIT by a factor of 5.
15-24A.
(a) DOL
$480,000
=
000 , 120 ) 7 $ 12 ($ 000 , 40
) 7 $ 12 ($ 000 , 40
=
000 , 80 $
000 , 200 $
= 2.5 times
(b) DFL
$80,000
=
000 , 30 $ 000 , 80 $
000 , 80 $
= 1.6 times
(c) DCL
$480,000
=
000 , 30 $ 000 , 120 $ ) 7 $ 12 ($ 000 , 40
) 7 $ 12 ($ 000 , 40
=
000 , 50 $
000 , 200 $
= 4 times
Alternatively:
(DOL
S
) x (DFL
EBIT
) = DCL
S
(2.5) x (1.6) = 4 times
15-25A. The task is to find the break-even point in units for the firm. Several
approaches are possible, but the one presented below makes intuitive sense to
students.
Step (1) Compute the operating profit margin:
(Operating Profit Margin) x (Operating Asset Turnover) =
Return on Operating Assets
(M) x (5) = 0.15
M = 0.03
Step (2) Compute the sales level associated with the given output level:
$3,000,000
Sales
= 5
Sales = $15,000,000
Step (3) Compute EBIT:
(0.03) ($15,000,000) = EBIT = $450,000
116
Step (4) Compute revenue before fixed costs. Since the degree of
operating leverage is 8 times, revenue before fixed costs
(RBF) is 8 times EBIT as follows:
RBF = (8) ($450,000) = $3,600,000
Step (5) Compute total variable costs:
Sales - Total variable costs = $3,600,000
$15,000,000 - Total variable costs = $3,600,000
Total variable costs = $11,400,000
Step (6) Compute total fixed costs:
RBF - Fixed costs = $450,000
$3,600,000 - Fixed costs = $450,000
Fixed costs = $3,150,000
Step (7) Find the selling price per unit, and the variable cost per unit:
P =
000 , 600 , 1
000 , 000 , 15 $
= $9.375
V =
000 , 600 , 1
000 , 400 , 11 $
= $7.125
Step (8) Compute the break-even point:
Q
B
=
V P
F
=
) 125 . 7 ($ ) 375 . 9 ($
000 , 150 , 3 $
=
25 . 2 $
000 , 150 , 3 $
= 1,400,000 units
15-26A. Compute the present level of break-even output:
Q
B
=
V P
F
=
14 $ 20 $
000 , 300 $
= 50,000 units
Compute the new level of fixed costs at the break-even output.
S V F = 0
($20) (50,000) - ($12) (50,000) F = 0
$400,000 = F
Compute the addition to fixed costs:
$400,000 - $300,000 = $100,000 addition
15-27A.
(a)
EBIT
costs fixed before Revenue
=
000 , 000 , 1 $
000 , 000 , 3 $
= 3 times
117
(b)
I EBIT
EBIT
=
000 , 800 $
000 , 000 , 1 $
= 1.25 times
(c) DCL
$12,000,000
= (3) (1.25) = 3.75 times
(d) S* =
S
VC
1
F
=
$12m
$9m
1
$2,000,000
=
75 . 0 1
000 , 000 , 2 $
=
25 . 0
000 , 000 , 2 $
= $8,000,000
15-28A.
(a)
EBIT
costs fixed before Revenue
=
000 , 000 , 4 $
000 , 000 , 8 $
= 2 times
(b)
I EBIT
EBIT
=
000 , 500 , 2 $
000 , 000 , 4 $
= 1.6 times
(c) DCL
$16,000,000
= (2) (1.6) = 3.2 times
(d) (20%) (3.2) = 64% Increase
(e) S* =
S
VC
1
F
=
$16m
$8m
1
$4,000,000
=
5 . 0 1
000 , 000 , 4 $
= $8,000,000
118
15-29A.a. A B C D Total
Sales $40,000 $50,000 $20,000 $10,000 $120,000
Variable costs* 24,000 34,000 16,000 4,000 78,000
Contribution margin $16,000 $16,000 $ 4,000 $ 6,000 $ 42,000
Contribution margin ratio 40% 32% 20% 60% 35%
*Variable costs = (Sales) (1 - contribution margin ratio)
b. 35%
c.. Break-even point in sales dollars:
S* =
S
VC
1
F
=
65 . 0 1
400 , 29 $
=
35 . 0
400 , 29 $
= $84,000
15-30A. A B C D Total
Sales $30,000 $44,000 $40,000 $6,000 $120,000
Variable costs* 18,000 29,920 32,000 2,400 82,320
Contribution margin $12,000 $14,080 $ 8,000 $ 3,600 $ 37,680
Contribution margin ratio 40% 32% 20% 60% 31.4%
*Variable costs = (sales) (1- contribution margin ratio).
b. 31.4%
c.. Break-even point in sales dollars:
S* =
S
VC
1
F
=
314 . 0
400 , 29 $
= $93,631
Toledo's management would prefer the sales mix identified in problem 15-29A.
That sales mix provides a higher EBIT ($12,600 vs. $8,280) and a lower break-even
point ($84,000 vs. $93,631).
SOLUTION TO INTEGRATIVE PROBLEM:
In solving for the break-even point in units, the following step-by-step approach seems to be
the most logical to students and the easiest for them to understand.
COMPUTE BREAK-EVEN POINT:
STEP 1: Compute the operating profit margin:
Operating Profit Margin [M] x Operating Asset Turnover = Return on
operating assets
M x 7 = 35%
M = 5%
119
STEP 2: Compute the sales level associated with the given output level:
Operating Assets x Operating Asset Turnover = Sales
$2,000,000 x 7 = Sales
Sales = $14,000,000
STEP 3: Compute EBIT:
Sales [STEP 2] x Operating Profit Margin [STEP 1] = EBIT
$14,000,000 x 5% = EBIT
EBIT = $700,000
STEP 4: Compute revenue before fixed costs:
EBIT [STEP 3] x Degree of Operating Leverage = Revenue before Fixed
Costs
$700,000 x 5 = Revenue before Fixed Costs
Revenue before Fixed Costs = $3,500,000
STEP 5: Compute total variable costs:
Sales [STEP 2] - Revenue before Fixed Costs [STEP 4] = Total Variable
Costs
$14,000,000 - $3,500,000 = Total Variable Costs
Total Variable Costs = $10,500,000
STEP 6: Compute total fixed costs:
Revenue before Fixed Costs [STEP 4] - EBIT [STEP 3] = Fixed Costs
$3,500,000 - $700,000 = Fixed Costs
Fixed Costs = $2,800,000
STEP 7: Find selling price per unit (P) and variable cost per unit (V):
P = Sales [STEP 2] / Output in Units
P = $14,000,000 / 50,000 units
P = $280.00
V = Total Variable Costs [STEP 5] / Output in Units
V = $10,500,000 / 50,000 units
V = $210.00
120
STEP 8: Compute break-even point (in units):
Q
B
= F [STEP 6] / (P - V) [STEP 7]
Q
B
= $2,800,000 / ($280.00 - $210.00)
Q
B
= 40,000 units
After determining the break-even point using the approach described above, the students
have the information necessary to prepare an analytical income statement as follows:
Sales [STEP 2] $14,000,000
Variable Costs [STEP 5] 10,500,000
Revenue before Fixed Costs $3,500,000
Fixed Costs [STEP 6] 2,800,000
EBIT $700,000
Interest Expense 400,000
Earnings Before Taxes $300,000
Taxes (35%) 105,000
Net Income $195,000
Thereafter, the students have the data they need to answer questions (a) - (e) as follows:
(a) Degree of financial leverage:
DFL
EBIT
= EBIT / (EBIT - Interest)
DFL
EBIT
= $700,000 / ($700,000 - $400,000)
DFL
EBIT
= 2.33
(b) Degree of Combined Leverage:
DCL
S
= DOL
S
x DFL
EBIT
DCL
S
= 5 x 2.33
DCL
S
= 11.65
(c) Break-even point in sales dollars:
S* =
S
VC
1
F
S* =
0 $14,000,00
0 $10,500,00
- 1
$2,800,000
S* = $11,200,000
(d) If sales increase 30%, by what percent would EBT increase?
% increase in EBT = % increase in Sales x DCL
S
% increase in EBT = 30% x 11.65
% increase in EBT = 350%
121
(e) Analytical Income Statement to verify effect of 30% increase in sales:
Sales] $18,200,000
Variable Costs 13,650,000
Revenue Before Fixed Costs $4,550,000
Fixed Costs [STEP 6] 2,800,000
EBIT $1,750,000
Interest Expense 400,000
Earnings Before Taxes $1,350,000
Taxes (35%) 472,500
Net Income $877,500
It may be useful to develop the following proof to assist in explaining the inter-
relationships of the various values:
% change in EBT = (EBT
after
- EBT
before
) / EBT
before
% change in EBT = ($1,350,000 - $300,000) / $300,000
% change in EBT = 350%
which agrees with the following:
% change in EBT = % change in Sales x DCL
S
% change in EBT = 30% x 11.65
% change in EBT = 350%
Solutions To Problem Set B
15-1B. Break-even Quantity = Q
B
Q
B
=
V) (P
F
P =
units 40,000,000
0 $20,000,00
= $.50 per unit
V =
units 40,000,000
0 $16,000,00
= $.40 per unit
thus,
Q
B
=
) 40 . 0 $ 50 . 0 ($
000 , 400 , 2 $
Q
B
= 24,000,000 units
122
15-2B. Degree of Combined Leverage = DCL
S
Degree of Operating Leverage = DOL
S
Degree of Financial Leverage = DFL
EBIT
DOL
S
=
F] V) [Q(P
V) Q(P
P =
units 40,000,000
0 $20,000,00
= $.50 per unit
V =
units 40,000,000
0 $16,000,00
= $.40 per unit
thus,
DOL
S
=
[ ] 000 , 400 , 2 $ ) 40 . 0 $ 50 . 0 ($ 000 , 000 , 40
) 40 . 0 $ 50 . 0 ($ 000 , 000 , 40
DOL
S
= 2.50 times
DFL
EBIT
=
1) (EBIT
EBIT
DFL
EBIT
=
) 000 , 800 $ 000 , 600 , 1 ($
000 , 600 , 1 $
DFL
EBIT
= 2.00 times
and
DCL
S
=
I] F V) [Q(P
V) Q(P
DCL
S
=
[ ] 000 , 800 $ 000 , 400 , 2 $ ) 40 . 0 $ 50 . 0 ($ 000 , 000 , 40
) 40 . 0 $ 50 . 0 ($ 000 , 000 , 40
DCL
S
=
000 , 800 $
000 , 000 , 4 $
DCL
s
= 5.00 times
15-3B.
(a) Q
B
=
V P
F
=
115 $ 175 $
000 , 650 $
=
60 $
000 , 650 $
= 10,833 Units
123
(b) S* = (10,833 units) ($175) = $1,895,775
Alternatively,
S* =
S
VC
1
F
=
175 $
115 $
1
000 , 650 $
=
6571 . 0 1
000 , 650 $
=
3429 .
000 , 650 $
= $1,895,596
Note: $1,895,596 differs from $1,895,775 due to rounding.
(c) 10,000 16,000 20,000
units units units
Sales $1,750,000 $2,800,000 $3,500,000
Variable costs 1,150,000 1,840,000 2,300,000
Revenue before fixed costs 600,000 960,000 1,200,000
Fixed costs 650,000 650,000 650,000
EBIT -$50,000 $ 310,000 $ 550,000
(d) 10,000 units 16,000 units 20,000 units
000 , 50 $
000 , 600 $
= -12 times
$310,000
$960,000
= 3.1 times
000 , 550 $
000 , 200 , 1 $
= 2.2
times
Notice that the degree of operating leverage decreases as the firm's sales level
rises above the break-even point.
15-4B.
(a) Durham Raleigh Charlotte
Furniture Cabinets Colonials
Sales $1,600,000 $1,957,500 $525,000
Variable costs 1,100,000 1,080,000 236,250
Revenue before
fixed costs $500,000 $877,500 $288,750
Fixed costs 40,000 150,000 60,000
EBIT $460,000 $727,500 $228,750
(b) Q
B
=
V P
F
=
75 . 13 $ 00 . 20 $
000 , 40 $
=
25 . 6 $
000 , 40 $
=
6,400 units
Q
B
=
240 $ 435 $
000 , 150 $
=
195 $
000 , 150 $
= 769 units
Q
B
=
75 . 15 $ 00 . 35 $
000 , 60 $
=
25 . 19 $
000 , 60 $
= 3,117 units
(c)
124
Durham Raleigh Charlotte
Furniture Furniture Colonials
=
000 , 460 $
000 , 500 $
=
500 , 727 $
500 , 877 $
=
750 , 228 $
750 , 288 $
= 1.09 times 1.21 times 1.26 times
(d) Charlotte Colonials, since its degree of operating leverage exceeds that of the
other two companies.
15-5B.
(a) {S - [VC + F]} (1 - T) = $55,000
( ) T 1 F
S
VC
S S
'
1
]
1
+
,
_
= $55,000
{$400,008 - [257,148 + F ]} (0.55) = $55,000
($142,860 - F) (0.55) = $55,000
F = $42,860
(b) Q
B
=
V P
F
=
00 . 18 $ 00 . 28 $
860 , 42 $
=
00 . 10 $
860 , 42 $
= 4,286 units
S* =
S
VC
1
F
=
643 . 0 1
860 , 42 $
= $120,056
15-6B. (a) Find the EBIT level at the forecast sales volume:
S
EBIT
= .28
Therefore, EBIT = (0.28) ($3,750,000) = $1,050,000
Next, find total variable costs:
S
VC
= 0.55,
so: VC = (0.55) $3,750,000 = $2,062,500
Now, solve for total fixed costs:
S - (VC + F) = $1,050,000
$3,750,000 - ($1,687,500 + F) = $1,050,000
F = $637,500
(b) S* =
55 . 0 1
500 , 637 $
= $1,416,667
125
15-7B.
(a) =
000 , 000 , 14 $
000 , 000 , 24 $
= 1.71 times
(b)
I EBIT
EBIT
=
000 , 850 , 12 $
000 , 000 , 14 $
= 1.09 times
(c) DCL
$40,000,000
= (1.71) (1.09) = 1.86 times
(d) S* =
S
VC
1
F
=
$40m
$16m
1
0 $10,000,00
=
4 . 0 1
000 , 000 , 10 $
=
6 . 0
000 , 000 , 10 $
= $16,666,667
(e) (20%) (1.86) = 37.2%
15-8B. Given the data for this problem, several approaches are possible for finding the
break-even point in units. The approach below seems to work well with students.
Step (1) Compute the operating profit margin:
(Operating Profit Margin) x (Operating Asset Turnover) = Return on
Operating Assets
(M) x (5) = 0.25
M = .05
Step (2) Compute the sales level relative to the given output level:
0 $18,000,00
Sales
= 5
Sales = $90,000,000
Step (3) Compute EBIT:
(.05) ($90,000,000) = $4,500,000
Step (4) Compute revenue before fixed costs. Since the degree of operating
leverage is 6 times, revenue before fixed costs (RBF) is 6 times EBIT
as follows:
RBF = (6) ($4,500,000) = $27,000,000
126
Step (5) Compute total variable costs:
(Sales) - (Total variable costs) = $27,000,000
$90,000,000 - (Total variable costs) = $27,000,000
Total variable costs = $63,000,000
Step (6) Compute total fixed costs:
RBF - Fixed costs = $4,500,000
$27,000,000 - fixed costs = $4,500,000
Fixed costs = $22,500,000
Step (7) Find the selling price per unit, and the variable cost per unit:
P =
000 , 000 , 7
000 , 000 , 90 $
= $12.86
V =
000 , 000 , 7
000 , 000 , 63 $
= $9.00
Step (8) Compute the break-even point:
Q
B
=
V P
F
=
) 9 ($ ) 86 . 12 ($
000 , 500 , 22 $
=
86 . 3 $
000 , 500 , 22 $
= 5,829,016 units
15-9B.
(a) Q
B
=
V P
F
=
140 $ 175 $
000 , 550 $
=
35 $
000 , 550 $
= 15,714
units
(b) S* =
S
VC
1
F
=
175 $
140 $
1
000 , 550 $
=
8 . 0 1
000 , 550 $
=
2 .
000 , 550 $
= $2,750,000
(c) 12,000 15,000 20,000
Units Units Units
Sales $2,100,000 $2,625,000 $3,500,000
Variable costs 1,680,000 2,100,000 2,800,000
Revenue before fixed costs $ 420,000 $ 525,000 $700,000
Fixed costs 550,000 550,000 550,000
EBIT -$130,000 -$25,000 $ 150,000
127
(d) 12,000 units 15,000 units 20,000 units
000 , 130 $
000 , 420 $
= -3.2 times
000 , 25 $
000 , 525 $
= -21 times
000 , 150 $
000 , 700 $
= 4.67
times
15-10B.
(a) Farm City Empire Golden
Seeds Sod Peaches
Sales $1,800,000 $1,710,000 $1,400,000
Variable costs 1,410,000 1,305,000 950,000
Revenue before fixed costs $390,000 $ 405,000 $ 450,000
Fixed costs 30,000 110,000 33,000
EBIT $ 360,000 $ 295,000 $ 417,000
(b) Farm City: Q
B
=
V P
F
=
75 . 11 $ 00 . 15 $
000 , 30 $
=
25 . 3 $
000 , 30 $
= 9,231
units
Empire Sod: Q
B
=
145 $ 190 $
000 , 110 $
=
45 $
000 , 110 $
= 2,444 units
Golden Peaches: Q
B
=
19 $ 00 . 28 $
000 , 33 $
=
9 $
000 , 33 $
= 3,667 units
(c) Farm City Empire Golden
Seeds Sod Peaches
000 , 360 $
000 , 390 $
= 1.083 times
000 , 295 $
000 , 405 $
= 1.373 times
000 , 417 $
000 , 450 $
= 1.079 times
(d) Empire Sod, since its degree of operating leverage exceeds that of the other
two companies.
15-11B.
(a) {S [VC + F]} (1-T) = $38,000
( ) T 1 F
S
VC
S S
'
1
]
1
+
,
_
= $38,000
[($420,002) - ($222,354) - F] (0.65) = $38,000
($197,648 - F) (0.65) = $38,000
F = $139,186.46
128
(b) Q
B
=
V P
F
=
8 $
46 . 186 , 139 $
= 17,398 units
S* =
S
VC
1
F
=
5294 . 0 1
46 . 186 , 139 $
= $295,764
15-12B.
(a) {S [VC + f]} (1 T) = $70,000
( ) T 1 F
S
VC
S S
'
1
]
1
+
,
_
= $70,000
[ ($2,500,050) - (1,933,372) - F ]
(.55) = $70,000
($566,678 - F) (.55) = $70,000
($311,672.9 - .55F) = $70,000
F = $439,405.27
(b) Q
B
=
V P
F
=
17 $
27 . 405 , 439 $
= 25,847 units
S* =
S
VC
1
F
=
.7733 1
7 $439,405.2
=
.2267
7 $439,405.2
= $1,938,268 =
2267 .
27 . 405 , 439 $
15-13B.
(a) S (1 - 0.8) - $335,000 = $270,000
0.2S = $605,000
S = $3,025,000 = (P Q)
Now, solve the above relationship for P:
175,000 (P) = $3,025,000
P = $17.29
(b) Sales $3,025,750
Less: Total variable costs 2,420,600
Revenue before fixed costs $605,150
Less: Total fixed costs 335,000
EBIT $ 270,150
129
15-14B.
(a) S (1-.75) - $300,000 = $250,000
.25S = $550,000
S = $2,200,000 = (P Q)
Solve the above relationship for P:
190,000 (P) = $2,200,000
P = $11.58
(b) Sales $2,200,000
Less: Total variable costs 1,650,000
Revenue before fixed costs $550,000
Less: Total fixed costs 300,000
EBIT $ 250,000
15-15B.
(a) First, find the EBIT level at the forecast sales volume:
S
EBIT
= 0.25
So: EBIT = (0.25) $4,250,000 = $1,062,500
Next, find total variable costs:
= 0.4
So: VC = (0.40) $4,250,000 = $1,700,000
Then, solve for total fixed costs:
S - (VC + F) = $1,062,500
$4,250,000 - ($1,700,000 + F) = $1,062,500
F = $1,487,500
(b) S*
=
4 . 1
500 , 487 , 1 $
= $2,479,167
15-16B.
(a) Q
B
=
V P
F
=
125 $
000 , 200 $
= 1,600 units
(b) S* =
S
VC
1
F
=
0.7368 1
$200,000
= $759,878
130
(c) DOL
$2,850,000
=
000 , 200 $ ) 350 $ 475 ($ 000 , 6
) 350 $ 475 ($ 000 , 6
000 , 550 $
000 , 750 $
= 1.364 times
(d) (13%) x (1.364) = 17.73% Increase
15-17B.
(a) Q
B
=
V P
F
=
17 $ 28 $
000 , 55 $
=
11 $
000 , 55 $
= 5,000 units
(b) S* =
S
VC
1
F
=
28 $
17 $
1
000 , 55 $
=
607 . 0 1
000 , 55 $
=
393 .
000 , 55 $
=
$139,949
(c) 4,000 units 6,000 units 8,000 units
Sales $112,000 $168,000 $224,000
Variable costs 68,000 102,000 136,000
Revenue before fixed costs $ 44,000 $ 66,000 $ 88,000
Fixed costs 55,000 55,000 55,000
EBIT -$11,000 $ 11,000 $ 33,000
(d) 4000 units 6000 units 8000 units
000 , 11 $
000 , 44 $
= -4X
000 , 11 $
000 , 66 $
= 6X
000 , 33 $
000 , 88 $
= 2.67X
(e) The degree of operating leverage decreases as the firm's sales level rises
above the break-even point.
15-18B. Compute the present level of break-even output:
Q
B
=
V P
F
=
6 $ 13 $
000 , 135 $
= 19,286 units
Compute the new level of fixed costs at the break-even output:
S V F = 0
($13) (19,286) - ($5) (19,286) - F = 0
$250,718 - $96,430 - F = 0
$154,288 = F
Compute the addition to fixed costs:
$154,288 - $135,000 = $19,288 addition
131
15-19B. DOL
$520,000
=
000 , 135 $ ) 6 $ 13 ($ 000 , 40
) 6 $ 13 ($ 000 , 40
=
000 , 145
000 , 280 $
= 1.93 times
Any percentage change in sales will magnify EBIT by a factor of 1.93.
15-20B.
(a) DOL
$650,000
=
000 , 135 ) 6 $ 13 ($ 000 , 50
) 6 $ 13 ($ 000 , 50
=
000 , 215 $
000 , 350 $
= 1.63 times
(b) DFL
$215,000
=
000 , 60 $ 000 , 215 $
000 , 215 $
= 1.39 times
(c) DCL
$650,000
=
000 , 60 $ 000 , 135 $ ) 6 $ 13 ($ 000 , 50
) 6 $ 13 ($ 000 , 50
=
000 , 155 $
000 , 350 $
= 2.26 times
Alternatively:
DOL
S
x DFL
EBIT
= DCL
S
1.63 x 1.39 = 2.26 times
15-21B. The task is to find the break-even point in units for the firm. Several
approaches are possible, but the one presented below makes intuitive sense to
students.
Step (1) Compute the operating profit margin:
(Operating Profit Margin) x (Operating Asset Turnover) = Return on
Operating Assets
(M) x (6) = 0.16
M = 0.0267
Step (2) Compute the sales level associated with the given output level:
$3,250,000
Sales
= 6
Sales = $19,500,000
Step (3) Compute EBIT:
(0.0267) ($19,500,000) = EBIT = $520,000
Step (4) Compute revenue before fixed costs. Since the degree of operating
leverage is 9 times, revenue before fixed costs (RBF) is 9 times EBIT
as follows:
132
RBF = (9) ($520,000) = $4,680,000
Step (5) Compute total variable costs:
Sales - Total variable costs = $4,680,000
$19,500,000 - Total variable costs = $4,680,000
Total variable costs = $14,820,000
Step (6) Compute total fixed costs:
RBF - Fixed costs = $520,000
$4,680,000 - Fixed costs = $520,000
Fixed costs = $4,160,000
Step (7) Find the selling price per unit, and the variable cost per unit:
P =
000 , 700 , 1
000 , 500 , 19 $
= $11.471
V =
000 , 700 , 1
000 , 820 , 14 $
= $8.718
Step (8) Compute the break-even point:
Q
B
=
V P
F
=
) 718 . 8 ($ ) 471 . 11 ($
000 , 160 , 4 $
=
753 . 2 $
000 , 160 , 4 $
=
1,511,079 units
15-22B. Compute the present level of break-even output:
Q
B
=
V P
F
=
13 $ 25 $
000 , 375 $
= 31,250 units
Compute the new level of fixed costs at the break-even output.
S V F = 0
($25) (31,250) - ($11) (31,250) - F = 0
$437,500 = F
Compute the addition to fixed costs:
$437,500 - $375,000 = $62,500 addition
15-23B.
(a)
EBIT
costs fixed before Revenue
=
000 , 250 , 1 $
000 , 250 , 4 $
= 3.4 times
(b)
I EBIT
EBIT
=
000 , 000 , 1 $
000 , 250 , 1 $
= 1.25 times
(c) DCL
$13,750,000
= (3.4) (1.25) = 4.25 times
(d) S* =
S
VC
1
F
=
$13.75m
$9.5m
1
3,000,000
133
=
0.6909 1
$3,000,000
=
0.3091
$3,000,000
= $9,705,597
15-24B.
(a)
EBIT
costs fixed before Revenue
=
000 , 000 , 5 $
000 , 000 , 11 $
= 2.2 times
(b)
I EBIT
EBIT
=
000 , 250 , 3 $
000 , 000 , 5 $
= 1.54 times
(c) DCL
$18,000,000
= (2.2) (1.54) = 3.39 times
(d) (15%) (3.39) = 50.9%
(e) S* =
S
VC
1
F
=
$18m
$7m
1
$6,000,000
=
389 . 0 1
000 , 000 , 6 $
= $9,819,967
15-25B.a. A B C D Total
Sales $38,505 $61,995 $29,505 $19,995 $150,000
Variable costs* 23,103 42,157 23,604 7,998 96,862
Contribution margin $15,402 $19,838 $ 5,901 $ 11,997 $ 53,138
Contribution margin ratio 40% 32% 20% 60% 35.43%
*Variable costs = (Sales) (1 - contribution margin ratio)
b. 35.43%
c. Break-even point in sales dollars:
S* =
S
VC
1
F
=
000 , 150 $
862 , 96 $
1
= $98,800
134
15-26B.a. A B C D Total
Sales $49,995 $62,505 $25,005 12,495 $150,000
Variable costs* 29,997 42,503 20,004 4,998 97,502
Contribution margin $19,998 $20,002 $ 5,001 $ 7,497 $ 52,498
Contribution margin ratio 40% 32% 20% 60% 35%
*Variable costs = (sales) (1- contribution margin ratio).
b. 35%
c. Break-even point in sales dollars:
S* =
S
VC
1
F
=
35 . 0
000 , 35 $
= $100,000
Wayne's management would prefer the sales mix identified in problem 15-25B.
That first sales mix provides a higher EBIT ($18,138 vs. $17,498) and a lower
break-even point ($98,800 vs. $100,000).
135