You and your colleague, Adam, are currently participating in a finance internship program at Ironworks Railroad. Your current assignment is to work together to review Ironworks’s current and projected income statements. You will also assess the consequences of management’s capital structure and investment decisions on the firm’s future riskiness. After much discussion, you and Adam decide to calculate Ironworks’s degree of operating leverage (DOL), degree of financial leverage (DFL), and degree of total leverage (DTL) based on this year’s data to gain insights into Ironworks’s risk levels. The most recent income statement for Ironworks Railroad follows. Ironworks is funded solely with debt capital and common equity, and it has 2,000,000 shares of common stock currently outstanding. This Year’s Data Next Year’s Projected Data Sales $60,000,000 $64,500,000 Less: Variable costs 36,000,000 38,700,000 Gross profit $24,000,000 $25,800,000 Less: Fixed operating costs 12,000,000 12,000,000 Net operating income (EBIT) $12,000,000 $13,800,000 Less: Interest expense 1,200,000 1,200,000 Taxable income (EBT) $10,800,000 $12,600,000 Less: Tax expense (40%) 4,320,000 5,040,000 Net income $6,480,000 $7,560,000 Earnings per share (EPS) $3.24 $3.78 Given this information, complete the following table and then answer the questions that follow. When performing your calculations, round your EPS and percentage change values to two decimal places. Answer: Ironworks Railroad Data DOL (Sales = $60,000,000) DFL (EBIT = $12,000,000) DTL (Sales = $60,000,000) Everything else remaining constant, assume Ironworks Railroad decides to convert its labor-intensive manufacturing facility into a capital-intensive facility by laying off over 75% of its labor force and replacing the workers with robotic and technologically advanced manufacturing equipment. Assume that, over the next five years, the wages saved as a result of the layoffs will pay for the changes made to Ironworks’s plant and equipment changes. How would this affect Ironworks’s DOL, DFL, and DCL? • The DOL would be expected to . • The DFL would be expected to . • The DTL would be expected to .
You and your colleague, Adam, are currently participating in a finance internship program at Ironworks Railroad. Your current assignment is to work together to review Ironworks’s current and projected income statements. You will also assess the consequences of management’s capital structure and investment decisions on the firm’s future riskiness. After much discussion, you and Adam decide to calculate Ironworks’s degree of operating leverage (DOL), degree of financial leverage (DFL), and degree of total leverage (DTL) based on this year’s data to gain insights into Ironworks’s risk levels. The most recent income statement for Ironworks Railroad follows. Ironworks is funded solely with debt capital and common equity, and it has 2,000,000 shares of common stock currently outstanding. This Year’s Data Next Year’s Projected Data Sales $60,000,000 $64,500,000 Less: Variable costs 36,000,000 38,700,000 Gross profit $24,000,000 $25,800,000 Less: Fixed operating costs 12,000,000 12,000,000 Net operating income (EBIT) $12,000,000 $13,800,000 Less: Interest expense 1,200,000 1,200,000 Taxable income (EBT) $10,800,000 $12,600,000 Less: Tax expense (40%) 4,320,000 5,040,000 Net income $6,480,000 $7,560,000 Earnings per share (EPS) $3.24 $3.78 Given this information, complete the following table and then answer the questions that follow. When performing your calculations, round your EPS and percentage change values to two decimal places. Answer: Ironworks Railroad Data DOL (Sales = $60,000,000) DFL (EBIT = $12,000,000) DTL (Sales = $60,000,000) Everything else remaining constant, assume Ironworks Railroad decides to convert its labor-intensive manufacturing facility into a capital-intensive facility by laying off over 75% of its labor force and replacing the workers with robotic and technologically advanced manufacturing equipment. Assume that, over the next five years, the wages saved as a result of the layoffs will pay for the changes made to Ironworks’s plant and equipment changes. How would this affect Ironworks’s DOL, DFL, and DCL? • The DOL would be expected to . • The DFL would be expected to . • The DTL would be expected to .
Intermediate Financial Management (MindTap Course List)
13th Edition
ISBN:9781337395083
Author:Eugene F. Brigham, Phillip R. Daves
Publisher:Eugene F. Brigham, Phillip R. Daves
Chapter11: Determining The Cost Of Capital
Section: Chapter Questions
Problem 1MC: During the last few years, Jana Industries has been too constrained by the high cost of capital to...
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Question
You and your colleague, Adam, are currently participating in a finance internship program at Ironworks Railroad. Your current assignment is to work together to review Ironworks’s current and projected income statements. You will also assess the consequences of management’s capital structure and investment decisions on the firm’s future riskiness. After much discussion, you and Adam decide to calculate Ironworks’s degree of operating leverage (DOL), degree of financial leverage (DFL), and degree of total leverage (DTL) based on this year’s data to gain insights into Ironworks’s risk levels.
The most recent income statement for Ironworks Railroad follows. Ironworks is funded solely with debt capital and common equity, and it has 2,000,000 shares of common stock currently outstanding.
|
|
This Year’s Data
|
Next Year’s Projected Data
|
|---|---|---|
| Sales | $60,000,000 | $64,500,000 |
| Less: Variable costs | 36,000,000 | 38,700,000 |
| Gross profit | $24,000,000 | $25,800,000 |
| Less: Fixed operating costs | 12,000,000 | 12,000,000 |
| Net operating income (EBIT) | $12,000,000 | $13,800,000 |
| Less: Interest expense | 1,200,000 | 1,200,000 |
| Taxable income (EBT) | $10,800,000 | $12,600,000 |
| Less: Tax expense (40%) | 4,320,000 | 5,040,000 |
| Net income | $6,480,000 | $7,560,000 |
| Earnings per share (EPS) | $3.24 | $3.78 |
Given this information, complete the following table and then answer the questions that follow. When performing your calculations, round your EPS and percentage change values to two decimal places.
Answer:
|
Ironworks Railroad Data
|
|
|---|---|
| DOL (Sales = $60,000,000) | |
| DFL (EBIT = $12,000,000) | |
| DTL (Sales = $60,000,000) |
Everything else remaining constant, assume Ironworks Railroad decides to convert its labor-intensive manufacturing facility into a capital-intensive facility by laying off over 75% of its labor force and replacing the workers with robotic and technologically advanced manufacturing equipment. Assume that, over the next five years, the wages saved as a result of the layoffs will pay for the changes made to Ironworks’s plant and equipment changes. How would this affect Ironworks’s DOL, DFL, and DCL?
| • | The DOL would be expected to . |
| • | The DFL would be expected to . |
| • | The DTL would be expected to . |
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