Question

The Sterling Tire Company's income statement for 20XX is as follows: 

STERLING TIRE COMPANY Income Statement Year ended December 31, 20XX
Sales (50,000 tires at $65 each)	$3,250,000
Less: Variable costs (50,000 tires at $40)	2,000,000
Contribution margin	1,250,000
Less: Fixed costs	1,050,000
Earnings before interest and taxes (EBIT)	200,000
Interest expense	75,000
Earnings before taxes (EBT)	125,000
Income tax expense (35%)	43,750
Earnings after taxes (EAT)	$81,250

Given this income statement, compute the following 

a. Degree of operating leverage. 

b. Degree of financial leverage. 

c-1. Degree of combined leverage. 

c-2. Using your answers to a. and b. calculate the percentage increase in EBIT and EBT from a 20 percent increase in sales volume. 

c-3. Does financial or operating leverage have the greater impact?

d. Break-even point in units. 

e. Break-even point considering the interest expense as a fixed cost. 

Answer 1