Exam 13: Leverage and Capital Structure

The dollar breakeven sales level can be solved for by dividing fixed costs by the dollar contribution margin.

An increase in cost (fixed cost or variable cost) tends to increase the operating breakeven point, whereas an increase in the sales price per unit will decrease the operating breakeven point.

The total leverage measures the combined effect of operating and financial leverage on the firm's risk.

Table 13.1 -Assuming a 40 percent tax rate, what is the financial breakeven point for each plan? (See Table 13.1)

Whenever the percentage change in EBIT resulting from a given percentage change in sales is greater than the percentage change in sales, operating leverage exists.

________ costs are a function of time, not sales, and are typically contractual.

A firm has fixed operating costs of $253,750, a sales price per unit of $100, and a variable cost per unit of $65. The firm's operating breakeven point in dollars is

Beijing Berings is considering purchasing a small firm in the same line of business. The purchase would be financed by the sale of common stock or a bond issue. The financial manager needs to evaluate how the two alternative financing plans will affect the earnings potential of the firm. Total financing required is $4.5 million. The firm currently has $20,000,000 of 12 percent bonds and 600,000 common shares outstanding. The firm can arrange financing of the $4.5 million through a 14 percent bond issue or the sale of 100,000 shares of common stock. The firm has a 40 percent tax rate. (a) What is the degree of financial leverage for each plan at $7,000,000 of EBIT? (b) What is the financial breakeven point for each plan?

The cash breakeven point is used when certain noncash charges, such as depreciation, constitute an important portion of the firm's fixed operating costs.

At the operating breakeven point, the sales revenue is equal to the sum of the fixed and variable operating costs.

Operating and financial constraints placed on a corporation by loan provision are

Both operating and financial leverage result in the magnification of return as well as risk.

The cost of equity increases with increasing financial leverage in order to compensate the stockholders for the higher degree of financial risk.

The operating breakeven point can be found by solving for the sales level that just covers total fixed and variable costs.

Breakeven analysis is used by the firm to determine the level of operations necessary to cover all fixed operating costs and to evaluate the profitability associated with various levels of sales.

The steeper the slope of the EBIT-EPS capital structure line, the lower the financial risk.

A firm has fixed operating costs of $525,000, of which $125,000 is depreciation expense. The firm's sales price per unit is $35 and its variable cost per unit is $22.50. The firm's cash operating breakeven point in units is

Nico Trading Company must choose its optimal capital structure. Currently, the firm has a 20 percent debt ratio and the firm expects to generate a dividend next year of $5.44 per share. Dividends are expected to remain at this level indefinitely. Stockholders currently require a 12.1 percent return on their investment. Nico is considering changing its capital structure if it would benefit shareholders. The firm estimates that if it increases the debt ratio to 30 percent, it will increase its expected dividend to $5.82 per share. Again, dividends are expected to remain at this new level indefinitely. However, because of the added risk, the required return demanded by stockholders will increase to 12.6 percent. Based on this information, should Nico make the change?

The ________ approach to capital structure proposes that an optimal capital structure be selected which ________.

Table 13.1 -At about what EBIT level should the financial manager be indifferent to either plan? (See Table 13.1)