Accounting

Problems

1.      Break-even analysis (LO2) Shock Electronics sells portable heaters for $25 per unit, and the variable cost to produce them is $17. Mr. Amps estimates that the fixed costs are 96,000.

         a.      Compute the break-even point in units.

         b.      Fill in the table below (in dollars) to illustrate that break-even point been achieved.

5-1.     Solution:

Shock Electronics Corporation

a.     BE= FC/P-VC          BE=96,000 = 12,000 units

                                                    25-17

b. Sales……………………….$300,000

  -Fixed costs…………………   204,000

  -Total variable costs…………    96,000

Net profit (loss)………………..            0

                                                      

6.   Break-even analysis (LO2) Jay Linoleum Company has fixed costs of $70,000. Its product currently sells for $4 per unit and has variable costs per unit of $2.60. Mr. Thomas, the head of manufacturing, proposes to buy new equipment that will cost $300,000 and drive up fixed cost to $105,000. Although the price will remain at $4 per unit the increased automation will reduce variable costs per unit to $2.25.

           As a result of Thomas’s suggestion will the break-even point go up or down? Compute necessary numbers.

BE1= 70,000/1.4        BE2= 105,000/1.75

BE1=50,000      BE2=60,000

The break-even point will increase by 10,000 units.

        

10.    Degree of leverage (LO2 & 5) The Sterling Tire Company’s income statement for 2010 is as follows:

STERLING TIRE COMPANY Income Statement For the Year Ended December 31, 2010
Sales (20,000 skates @ $60 each).................................	$1,200,000
Less: Variable costs (20,000 skates at $30)...................	600,000
Fixed costs................................................................	400,000
Earnings before interest and taxes (EBIT)....................	200,000
Interest expense.............................................................	50,000
Earnings before taxes (EBT).........................................	150,000
Income tax expense (30%)............................................	45,000
Earnings after taxes (EAT)............................................	$  105,000

            Given this income statement, compute the following:

            a.         Degree of operating leverage.

            b.         Degree of financial leverage.

            c.         Degree of combined leverage.

            d.         Break-even point in units (number of skates).

5-10.   Solution:

STERLING TIRE COMPANY

Q =20,000, P = $60, VC = $30, FC = $400,000, I = $50,000

a.       DOL= 20,000(60-30)                    = 3

              20,000(60-30)-400,000

b.      DFL= 200,000               = 1.33

200,000-50,000

c.       DCL= 20,000(60-30)                             = 4

                                20,000(60-30)-400,000-50,000

d.      BE= 400,000 = 13,333.33

       60-30

26.    Operating leverage and ratios (LO6)

26. Solution

a.

Sales (1,000,000 @ $5 each)……………………..  5,000,000

-Fixed costs…………………………………………1,500,000

–variable costs (1,000,000 @ $3 each)……………..3,000,000

Operating income…………………………………...   500,000

Earnings before interest taxes……………………….   500,000

Interest……………………………………………….     32,000

Earnings before taxes..................................................   468,000

Taxes (40%)………………………………………….   187,200

Earnings after taxes…………………………………..   280,800

Shares………………………………………………..      60,000

Earnings per share……………………………………         4.68

b. Sales (1,400,000 @ $4.50 each)………………… 6,300,000

-Fixed costs…………………………………………1,500,000

–variable costs (1,400,000 @ $3 each)……………..4,200,000

Operating income…………………………………...   600,000

Earnings before interest taxes……………………….   600,000

Interest……………………………………………….     45,000

Earnings before taxes..................................................   555,000

Taxes (40%)………………………………………….   222,000

Earnings after taxes…………………………………..   333,000

Shares………………………………………………..      50,000

Earnings per share……………………………………         6.66

c. Sales (1,400,000 @ $4.50 each)………………… 6,300,000

-Fixed costs…………………………………………1,725,000

–variable costs (1,400,000 @ $3 each)……………..4,200,000

Operating income…………………………………...   375,000

Earnings before interest taxes……………………….   375,000

Interest……………………………………………….     45,000

Earnings before taxes..................................................   330,000

Taxes (40%)………………………………………….   132,000

Earnings after taxes…………………………………..   198,000

Shares………………………………………………..      50,000

Earnings per share……………………………………         3.96