Question

United Snack Company sells 40-pound bags of peanuts to university dormitories for $60 a bag. The fixed costs of this operation are $671,600, while the variable costs of peanuts are $0.35 per pound.

a. What is the break-even point in bags?
  

	Break-even point bags

b. Calculate the profit or loss (EBIT) on 11,000 bags and on 24,000 bags.

  

	Bags Profit/Loss Amount 11,000 24,000

c. What is the degree of operating leverage at 19,000 bags and at 24,000 bags? (Round your answers to 2 decimal places.)
  

	Bags Degree of Operating Leverage 19,000 24,000

d. If United Snack Company has an annual interest expense of $35,000, calculate the degree of financial leverage at both 19,000 and 24,000 bags. (Round your answers to 2 decimal places.)

	Bags Degree of Financial Leverage 19,000 24,000

  

e. What is the degree of combined leverage at both a sales level of 19,000 bags and 24,000 bags? (Round your answers to 2 decimal places.)

	Bags Degree of Combined Leverage 19,000 24,000

Answer 1

a. Break even point in bags = Fixed costs/(revenue per bag – variable cost per bag)

= 671,600/(60-(0.35*40))

= 671600/46

= 14,600 bags

b. 11,000 bags: Total revenue = 11,000*60 = 660,000. Total costs = 671,600 + (0.35*40*11,000) = 825,600. Thus loss = 825,600-660,000 = 165,600

24,000 bags: Total revenue = 24,000*60 = 1,440,000. Total costs = 671,600 + (0.35*40*24,000) = 1,007,600. Thus profit = 1,440,000-1,007,600 = 432,400

Bags	Profit/Loss	Amount
11,000	Loss	165,600.00
24,000	Profit	432,400.00

c. Degree of Operating Leverage = Q*(P-VC)/Q*(P-VC)-FC

Thus for 19,000 bags DOL = 19000*(60-(0.35*40))/19000*(60-(0.35*40)) - 671,600 = 4.32

Bags	Degree of operating leverage
19,000	4.32
24,000	2.55

d. DFL = EBIT/(EBIT-I)

19000 bags
Sales	1,140,000.00
less: variable costs	266,000.00
less: fixed costs	671,600.00
EBIT	202,400.00

Similarly EBIT for 24,000 bags = 432,400. Thus degree of fianncial leverage are:

Bags	Degree of financial leverage
19,000	1.21
24,000	1.09

e. Degree of combined leverage = DOL*DFL

Thus degree of combined leverage for 19,000 bags = 4.32*1.21 = 5.22. Similarly answer for 24,000 bags has been calculated.

Bags	Degree of combined leverage
19,000	5.22
24,000	2.78