Question

If we consider the effect of taxes, then the degree of operating leverage can be written as:

  

DOL = 1 + [FC × (1 – TC) – TC × D] / OCF

  

Consider a project to supply Detroit with 40,000 tons of machine screws annually for automobile production. You will need an initial $5,800,000 investment in threading equipment to get the project started; the project will last for six years. The accounting department estimates that annual fixed costs will be $700,000 and that variable costs should be $200 per ton; accounting will depreciate the initial fixed asset investment straight-line to zero over the six-year project life. It also estimates a salvage value of $680,000 after dismantling costs. The marketing department estimates that the automakers will let the contract at a selling price of $300 per ton. The engineering department estimates you will need an initial net working capital investment of $580,000. You require a return of 18 percent and face a marginal tax rate of 30.

  

a.	What is the percentage change in OCF if the units sold changes to 41,000? (Do not round intermediate calculations. Enter your answer as a percent rounded to 4 decimal places, e.g., 32.1616.)

  

Percentage change in OCF

%

b.	What is the DOL at the base-case level of output? (Do not round intermediate calculations and round your final answer to 4 decimal places, e.g., 32.1616.)

DOL

Answer 1