Question

Integrative-Leverage and risk Firm has sales of 104.000 units at $2.05 per unit, variable operating costs of $1.71 per unit, and fixed operating costs of $6,000 Interest is $10.080 per year Firm Whas sales of 104 000 units at $2.56 per unit, variable operating costs of $0.98 per unit, and fixed operating costs of $62,800 Interest is $17.900 per year. Assume that both firms are in the 40% tax bracket a. Compute the degree of operating, financial, and total leverage for firm R. b. Compute the degree of operating, financial, and total leverage for fim W. c. Compare the relative risks of the two firme d. Discuss the principles of leverage that your answers ilustrate a. The degree of aperating leverage for firm Ris (Round to two decimal places) Enter your answer in the answer box and then click Check Answer 7 parts remaining Clear All Check Answer

Answer 1

a &b

		Firm R	Firm W
	Sales	213200	266240
	Less: Variable Costs	177840	101920
	Contribution (a)	35360	164320
	Less: Fixed costs	6000	62800
	EBIT (b)	29360	101520
	Less: Interest	10080	17900
	EBT (c )	19280	83620
1	Degree of operating leverage (a/b)	1.20	1.62
2	Degree of financial leverage ( b/c)	1.52	1.21
	Degree of total leverage (1*2)	1.83	1.97

c . Firm R less operating risk but more financial risk than firm W.

d. Two firms with differing operating and financial structures may be equally leveraged. Since totalleverage is the product of operating and financial leverage, each firm may structure itself differently and still have the same amount of total risk.