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6. A company has sales of ` 6,00,000, variable cost of ` 2,40,000, fixed operating cost of ` 2,70,000. The financial leverage is 2.5. The company wants to double its EBIT. The percentage change in ales required in order to double its EBIT will be :

Options

A50%
B25%
C40%
D80%
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Correct Answer

Option B25%

All Options:

  • A50%
  • B25%
  • C40%
  • D80%

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Detailed Solution & Explanation

Correct Answer: Option **B** Explanation: To find the percentage change in sales required to double the Earnings Before Interest and Taxes (EBIT), we use the concept of Degree of Operating Leverage (DOL).
**1. Calculate Contribution and EBIT:**
* textSales=6,00,000\\text{Sales} = ` 6,00,000
* textVariableCost=2,40,000\\text{Variable Cost} = ` 2,40,000
* textContribution=textSalestextVariableCost=6,00,0002,40,000=3,60,000\\text{Contribution} = \\text{Sales} - \\text{Variable Cost} = 6,00,000 - 2,40,000 = 3,60,000
* textFixedOperatingCost=2,70,000\\text{Fixed Operating Cost} = ` 2,70,000
* textEBIT=textContributiontextFixedOperatingCost=3,60,0002,70,000=90,000\\text{EBIT} = \\text{Contribution} - \\text{Fixed Operating Cost} = 3,60,000 - 2,70,000 = 90,000
**2. Calculate Degree of Operating Leverage (DOL):**
textDOL=fractextContributiontextEBIT\\text{DOL} = \\frac{\\text{Contribution}}{\\text{EBIT}}
textDOL=frac3,60,00090,000=4.0\\text{DOL} = \\frac{3,60,000}{90,000} = 4.0
**3. Calculate the Percentage Change in Sales:**
DOL measures the sensitivity of EBIT to changes in sales volume:
\\text{DOL} = \\frac{\\%\\text{ Change in EBIT}}{\\%\\text{ Change in Sales}}
We want to double the EBIT, which means the required change in EBIT is 100\displaystyle 100\\%.
4.0 = \\frac{100\\%}{\\%\\text{ Change in Sales}}
\\%\\text{ Change in Sales} = \\frac{100\\%}{4.0} = 25\\%
Note: The financial leverage of 2.5 is additional information and is not required for calculating the relationship between sales and EBIT.
Hence, **Option B** is the correct answer.

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