Leverage Analysis for EBT Change
The question provides the Degree of Operating Leverage (DOL) and the Degree of Financial Leverage (DFL) for a firm and asks for the resulting percentage change in Earnings Before Tax (EBT) given a percentage change in sales.
Calculate Degree of Total Leverage (DTL)
The Degree of Total Leverage (DTL) combines the effects of both operating and financial leverage. It is calculated by multiplying DOL and DFL.
$ \text{DTL} = \text{DOL} \times \text{DFL} $
Given:
- DOL = 3
- DFL = 2
Therefore:
$ \text{DTL} = 3 \times 2 = 6 $
Determine EBT Percentage Change
The DTL measures the sensitivity of EBT to changes in sales. The formula relating DTL to percentage changes is:
$ \text{DTL} = \frac{\% \text{ Change in EBT}}{\% \text{ Change in Sales}} $
We are given:
- DTL = 6
- Percentage increase in Sales = 6%
Rearranging the formula to solve for the percentage change in EBT:
$ \% \text{ Change in EBT} = \text{DTL} \times \% \text{ Change in Sales} $
Substituting the values:
$ \% \text{ Change in EBT} = 6 \times 6\% $
$ \% \text{ Change in EBT} = 36\% $
Thus, if sales increase by 6%, earnings before tax will rise by 36%.
Important Questions from Financial Management
- The indicator which shows how much a company managed to get out of the capital they had put in the business.
- Arrange the following steps in making a budget in a sequence :
I. Estimate the cost of desired items.
II. List down the commodities and services needed by the family.
III. Check plans to see that they have a reasonable chance of success.
IV. Estimate total expected income.
V. Bring expected income and expenditure into balance.
Codes : - Which one of the following is NOT a method of handling income ?
- One of the internal constraint in implementation of a project is:
Match the items of List - I with those of List - II and indicate the correct code :
List - I List - II (a) Net Income Approach (i) Working Capital Management (b) Profitability Index (ii) Over-capitalisation (c) Concentration Banking (iii) Capital Structure Planning (d) Lower Rate of Return (iv) Capital Budgeting Decision
