It represents the most recent year\'s operations, which ended yesterday (Leverag
ID: 2749327 • Letter: I
Question
It represents the most recent year's operations, which ended yesterday (Leverage and EPS) You have developed the following pro forma income statement for your corporation: Your supervisor in the controller's office has just handed you a memorandum asking for written responses to the following questions a. If sales should increase by 30 percent, by what percent would earnings before interest and taxes and net income increase? b. If sales should decrease by 30 percent, by what percent would earnings before interest and taxes and net income decrease? c. If the firm were to reduce its reliance on debt financing such that interest expense were cut in half, how would this affect your answers to parts a and b? a. If sales should increase by 30%, the percentage change in earnings before interest and taxes is %. (Round to two decimal places.) Data Table Sales Variable costs Revenue before fixed costs Fixed costs EBIT Interest expense Earnings before taxes Taxes (50%) Net income 45,783,000 22,823,000 22,960,000 ,289,000 13,671,000 1,362,000 S12,309,000 6,154,500 6,154,500 Print DoneExplanation / Answer
Part I
a. If Sales increases by 30%,
New Sales = 59,517,900
Less : Variable Cost= 29,669,900
Revenue before FIxed Costs = 29,848,000
Less: Fixed Costs = 9,289,000
EBIT = 20,559,000
Less: interest Expenses = 1,362,000
Earning Before Taxes = 19,197,000
Less: Taxes (50%) = 9,598,500
Net Income = 9,598,500
% Increase in Earning Before interest and Taxes = [(new EBIT-Old EBIT)/Old EBIT]*100
= [(20,559,000-1,367,100)/1,367,100]*100
= 50.38%
% Increase in Net Income = 55.96%
Note : If sales Changes by 30%, variable cost would also change by 30%. However, fixed cost and interest expenses would remain unchanged because they are independent of sales.
b. If Sales Decreases by 30%,
New Sales = 32,048,100
Less : Variable Cost= 15,976,100
Revenue before FIxed Costs = 16,072,000
Less: Fixed Costs = 9,289,000
EBIT = 6,783,000
Less: interest Expenses = 1,362,000
Earning Before Taxes =5,421,000
Less: Taxes (50%)= 2,710,500
Net Income = 2,710,500
% Decrease in Earning Before interest and Taxes = 50.38%
% Decrease in Net Income = 55.96%
Note : If sales Changes by 30%, variable cost would also change by 30%. However, fixed cost and interest expenses would remain unchanged because they are independent of sales.
c. If the firm were to reduce its reliance on debt financing such that interest expense were cut into half,
Interest Expense = 681,000
There would be no change in Earning Before interest and Taxes . Hence, till EBIT everything remains changed as calculated above
Part a.
EBIT = 20,559,000
Less: interest Expenses = 681,000
Earning Before Taxes = 19,878,000
Less: Taxes (50%) = 9,939,000
Net Income = 9,939,000
% Increase in Earning Before interest and Taxes = Nil
% Increase in Net Income = 61.49%
Part b
EBIT = 6,783,000
Less: interest Expenses= 681,000
Earning Before Taxes = 6,102,000
Less: Taxes (50%)= 3,051,000
Net Income = 3,051,000
% Decrease in Earning Before interest and Taxes = Nil
% Decrease in Net Income = 50.43%
Part II.
a. If Sales increases by 25%,
New Sales = 57,228,750
Less : Variable Cost= 28,528,750
Revenue before FIxed Costs = 28,700,000
Less: Fixed Costs = 9,289,000
EBIT = 19,411,000
Less: interest Expenses = 1,362,000
Earning Before Taxes = 1,849,000
Less: Taxes (50%) = 90,24,500
Net Income = 90,24,500
% Increase in Earning Before interest and Taxes = [(new EBIT-Old EBIT)/Old EBIT]*100
=41.99%
% Increase in Net Income =46.63 %
Note : If sales Changes by 25%, variable cost would also change by 25%. However, fixed cost and interest expenses would remain unchanged because they are independent of sales.
b. If Sales Decreases by 25%,
New Sales = 34,337,250
Less : Variable Cost= 17,117,250
Revenue before FIxed Costs = 17,220,000
Less: Fixed Costs = 9,289,000
EBIT = 7,931,000
Less: interest Expenses = 1,362,000
Earning Before Taxes =6,569,000
Less: Taxes (50%)= 3,284,500
Net Income = 3,284,500
% Decrease in Earning Before interest and Taxes = 41.99 %
% Decrease in Net Income = 46.63%
Note : If sales Changes by 25%, variable cost would also change by 25%. However, fixed cost and interest expenses would remain unchanged because they are independent of sales.
c. If the firm were to reduce its reliance on debt financing such that interest expense were cut into half,
Interest Expense = 681,000
There would be no change in Earning Before interest and Taxes . Hence, till EBIT everything remains changed as calculated above
Part a.
EBIT = 19,411,000
Less: interest Expenses = 681,000
Earning Before Taxes = 18,730,000
Less: Taxes (50%) =9,365,000
Net Income = 9,365,000
% Increase in Earning Before interest and Taxes = Nil
% Increase in Net Income =52.16 %
Part b
EBIT = 7,931,000
Less: interest Expenses= 681,000
Earning Before Taxes = 7,250,000
Less: Taxes (50%)= 3,625,000
Net Income = 3,625,000
% Decrease in Earning Before interest and Taxes = Nil
% Decrease in Net Income = 41.10%
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