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Description of Leverage Analysis and Break-Even Analysis

Please answer the following questions:

1. An analytical income statement for Detroit Heat Treating is shown below. It is based on an output (sales) level of 40,000 units.
Sales $480,000
Variable costs _2_8__0_,_0_0_0
Revenue before fixed costs $200,000
Fixed costs _1_2__0_,_0_0_0
EBIT $ 80,000
Interest expense __3__0_,_0_0_0
Earnings before taxes $ 50,000
Taxes __2_5__,_0_0_0
Net income $____2__5____,__0__0__0

a. Calculate the degree of operating leverage at this output level.
b. Calculate the degree of financial leverage at this level of EBIT.
c. Determine the combined leverage effect at this output level.

2. You are employed as a financial analyst for a single-product manufacturing firm. Your supervisor has made the following cost structure information available to you, all of which pertains to an output level of 1,600,000 units.
Return on operating assets = 15%
Operating asset turnover = 5 times
Operating assets = $3 million
Degree of operating leverage = 8 times
Your task is to find the break-even point in units of output for the firm.

Solution Preview

1. a. Calculate the degree of operating leverage at this output level.
DOL=(sales-variable cost)/(sales-variable cost-fxed cost)
Sales 480000
Less: Variable Cost 280000
Contribution 200000
Less Fixed Cost 120000
EBIT 80000

DOL 2.50

b. Calculate the degree of financial ...

Solution Summary

This solution is comprised of a step by step analysis, which includes all required calculations, which shows how to compute leverage analysis and find the break-even point.

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