Question

Healthy Foods Inc. sells 60-pound bags of grapes to the military for $10 a bag. The fixed costs of this operation are $60,000, while the variable costs of grapes are $0.10 per pound.

a. What is the break-even point in bags? (Round your answer to 2 decimal places.)
  

b. Calculate the profit or loss (EBIT) on 13,000 bags and on 41,000 bags.
  

c. What is the degree of operating leverage at 24,000 bags and at 41,000 bags? (Round your answers to 2 decimal places.)
  

d. If Healthy Foods has an annual interest expense of $12,000, calculate the degree of financial leverage at both 24,000 and 41,000 bags. (Round your answers to 2 decimal places.)
  

e. What is the degree of combined leverage at both 24,000 and 41,000 bags? (Round your answers to 2 decimal places.)
  

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Answer 1

Variable cost per bag = $0.10 per pound X 60 pounds = $6 per bag

Contribution margin per bag = Selling price per bag - Variable cost per bag

= $10 - $6

= $4 per bag

a.

Breakeven point = Fixed cost / Contribution margin per bag

= $60,000 / $4

= 15,000 bags

b.

EBIT = (No. of bags X Contribution margin per bag) - Fixed cost

13,000 bags = (13,000 X $4) - $60,000 = ($8,000)

41,000 bags = (41,000 X $4) - $60,000 = $104,000

c.

Degree of operating leverage = Contribution margin / EBIT

24,000 bags = (24,000 X $4) / [(24,000 X $4) - $60,000] = 2.67

41,000 bags = (41,000 X $4) / [(41,000 X $4) - $60,000] = 1.58

d.

Degree of financial leverage = EBIT / EBT

24,000 bags = [(24,000 X $4) - $60,000] / [(24,000 X $4) - $60,000 - $12,000] = 1.5

41,000 bags = [(41000 X $4) - $60,000] / [(41,000 X $4) - $60,000 - $12,000] = 1.13

e.

Degree of combined leverage = Contribution / EBT

24,000 bags = (24,000 X $4) / [(24,000 X $4) - $60,000 - $12,000] = 4

41,000 bags = (41,000 X $4) / [(41,000 X $4) - $60,000 - $12,000] = 1.78