Important: EXCEL Spreadsheet Must be Used for this Problem.Per your request, Table 14-1 is included as an attachment.The Hurricane Lamp Company forecasts that next year’s sales will be $6 million. Fixed operating costs are estimated to be $800,000, and the variable cost ratio (that is, variable costs as a fraction of sales) is estimated to be 0.75. The firm has a $600,000 loan at 10 percent interest. It has 20,000 shares of $3 preferred stock and 60,000 shares of common stock outstanding. Hurricane Lamp is in the 40 percent corporate income tax bracket.a) Forecast Hurricane Lamp’s earnings per share (EPS) for next year. Develop a complete income statement using the revised format illustrated in Table 14.1. Then determine what Hurricane Lamp’s EPS would be if sales were 10 percent above the projected $6 million level.Answer: EPS (Sales = $6 million) = $5.40 b) Calculate Hurricane Lamp’s degree of operating leverage (DOL) at a sales level of $6 million using the following:The definitional formula (Equation 14.1) The simpler, computational formula (Equation 14.2) What is the economic interpretation of this value?Answer: DCL = 2.778 c) Calculate Hurricane Lamp’s degree of financial leverage (DFL) at the EBIT level corresponding to sales of $6 million using the following:The definitional formula (Equation 14.3)The simpler computational formula (Equation 14.4)What is the economic interpretation of this value? d) Calculate Hurricane Lamp’s degree of combined leverage (DCL) using the following:The definitional formula (Equation 14.5)The simpler computational formula (Equation 14.7)The degree of operating and financial leverage calculated in Parts b and cWhat is the economic interpretation of this value?Table 14 -1 is attached. Thank you. Operating costsFinancial costsOperating leverageFinancial leverageAllegan Manufacturing Company Year Ending December 31, 2016Traditional Income Statement FormatSalesLess: Cost of salesSelling, general, and administrative expensesTotal operating costsEarnings before interest and taxes (EBIT)Less: Interest expenseEarnings before taxes (EBT)Less: Income taxes (40% rate)Earnings after taxes (EAT)Less: Preferred stock dividendsEarnings available to common stockholdersEarnings per share (EPS) 100,000 sharesAllegan Manufacturing Company Year Ending December 31, 2016Revised Income Statement FormaSalesLess: Variable operating costsFixed operating costsTotal operating costsEarnings before interest and taxes (EBIT)Less: Fixed capital costs (interest)Earnings before taxes (EBT)Less: Income taxes (variable), 40% rateEarnings after taxes (EAT)$ 2,500,0001,500,000Less: Fixed capital costs (preferred stock dividends)Earnings available to common stockholdersEarnings per share (EPS) 100,000 shares$3,000,0001,000,000$5,000,0004,000,0001,000,000250,000750,000300,000450,000150,000$ 300,000300$5,000,000$S4,000,0001,000,000250,000750,000300,000450,000150,000300,000300ⒸCengage Leaming 2015

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Important: EXCEL Spreadsheet Must be Used for this Problem. Per your request, Table 14-1 is included as an attachment. The Hurricane Lamp Company forecasts that next year’s sales will be $6 million. Fixed operating costs are estimated to be $800,000, and the variable cost ratio (that is, variable costs as a fraction of sales) is estimated to be 0.75. The firm has a $600,000 loan at 10 percent interest. It has 20,000 shares of $3 preferred stock and 60,000 shares of common stock outstanding. Hurricane Lamp is in the 40 percent corporate income tax bracket. a) Forecast Hurricane Lamp’s earnings per share (EPS) for next year. Develop a complete income statement using the revised format illustrated in Table 14.1. Then determine what Hurricane Lamp’s EPS would be if sales were 10 percent above the projected $6 million level. Answer: EPS (Sales = $6 million) = $5.40 b) Calculate Hurricane Lamp’s degree of operating leverage (DOL) at a sales level of $6 million using the following: The definitional formula (Equation 14.1) The simpler, computational formula (Equation 14.2) What is the economic interpretation of this value? Answer: DCL = 2.778 c) Calculate Hurricane Lamp’s degree of financial leverage (DFL) at the EBIT level corresponding to sales of $6 million using the following: The definitional formula (Equation 14.3) The simpler computational formula (Equation 14.4) What is the economic interpretation of this value?

Cornerstones of Financial Accounting

4th Edition

ISBN:9781337690881

Author:Jay Rich, Jeff Jones

Publisher:Jay Rich, Jeff Jones

Chapter12: Fainancial Statement Analysis

Section: Chapter Questions

Problem 99.4C

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Important: EXCEL Spreadsheet Must be Used for this Problem.

Per your request, Table 14-1 is included as an attachment.

The Hurricane Lamp Company forecasts that next year’s sales will be $6 million. Fixed operating costs are estimated to be $800,000, and the variable cost ratio (that is, variable costs as a fraction of sales) is estimated to be 0.75. The firm has a $600,000 loan at 10 percent interest. It has 20,000 shares of $3 preferred stock and 60,000 shares of common stock outstanding. Hurricane Lamp is in the 40 percent corporate income tax bracket.

a) Forecast Hurricane Lamp’s earnings per share (EPS) for next year. Develop a complete income statement using the revised format illustrated in Table 14.1. Then determine what Hurricane Lamp’s EPS would be if sales were 10 percent above the projected $6 million level.

Answer: EPS (Sales = $6 million) = $5.40

b) Calculate Hurricane Lamp’s degree of operating leverage (DOL) at a sales level of $6 million using the following:

The definitional formula (Equation 14.1)
The simpler, computational formula (Equation 14.2)
What is the economic interpretation of this value?

Answer: DCL = 2.778

c) Calculate Hurricane Lamp’s degree of financial leverage (DFL) at the EBIT level corresponding to sales of $6 million using the following:

The definitional formula (Equation 14.3)
The simpler computational formula (Equation 14.4)
What is the economic interpretation of this value?

d) Calculate Hurricane Lamp’s degree of combined leverage (DCL) using the following:

The definitional formula (Equation 14.5)
The simpler computational formula (Equation 14.7)
The degree of operating and financial leverage calculated in Parts b and c

What is the economic interpretation of this value?

Table 14 -1 is attached. Thank you.

Operating costs
Financial costs
Operating leverage
Financial leverage
Allegan Manufacturing Company Year Ending December 31, 2016
Traditional Income Statement Format
Sales
Less: Cost of sales
Selling, general, and administrative expenses
Total operating costs
Earnings before interest and taxes (EBIT)
Less: Interest expense
Earnings before taxes (EBT)
Less: Income taxes (40% rate)
Earnings after taxes (EAT)
Less: Preferred stock dividends
Earnings available to common stockholders
Earnings per share (EPS) 100,000 shares
Allegan Manufacturing Company Year Ending December 31, 2016
Revised Income Statement Forma
Sales
Less: Variable operating costs
Fixed operating costs
Total operating costs
Earnings before interest and taxes (EBIT)
Less: Fixed capital costs (interest)
Earnings before taxes (EBT)
Less: Income taxes (variable), 40% rate
Earnings after taxes (EAT)
$ 2,500,000
1,500,000
Less: Fixed capital costs (preferred stock dividends)
Earnings available to common stockholders
Earnings per share (EPS) 100,000 shares
$3,000,000
1,000,000
$5,000,000
4,000,000
1,000,000
250,000
750,000
300,000
450,000
150,000
$ 300,000
300
$5,000,000
$
S
4,000,000
1,000,000
250,000
750,000
300,000
450,000
150,000
300,000
300
ⒸCengage Leaming 2015

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