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Chapter 2: 12BP_d (page 147)

Healthy Foods Inc. sells 50-pound bags of grapes to the military for \(10 a bag. The fixed costs of this operation are \)80,000, while the variable costs of grapes are \(0.10 per pound.

d. If Healthy Foods has an annual interest expense of \)10,000, calculate the degree of financial leverage at both 20,000 and 25,000 bags.

Short Answer

Expert verified

The financial leverage at 20,000 bags is 2 and at 25,000 bags is 1.29.

Step by step solution

01

Income statement at the sales volume of 20,000 bags and at 25,000 bags

Particulars

20,000 bags

25,000 bags

Sales

$200,000 (20,000 x $10)

$250,000 (25,000 x $10)

Less: variable cost

100,000 (20,000 x $5)

125,000 (25,000 x $5)

Contribution

$100,000

$125,000

Less: Fixed cost

80,000

80,000

EBIT

$20,000

$45,000

Less: Interest expenses

10,000

10,000

EBT

$10,000

$35,000

02

Financial leverage at 20,000 bags

Financialleverage=EBITEBT=$20,000$10,000=2

03

Financial leverage at 25,000 bags

Financialleverage=EBITEBT=$45,000$35,000=1.29

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Sosa Diet Supplements had earnings after taxes of $800,000 in 20X1 with 200,000 shares of stock outstanding. On January 1, 20X2, the firm issued 50,000 new shares. Because of the proceeds from these new shares and other operating improvements, earnings after taxes increased by 30 percent.

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