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Corporate Finance Model Answer

The document provides a model answer to a corporate finance question calculating operating and financial leverage for Simplex Ltd. It shows: 1) Simplex Ltd's sales were Rs. 10 lacs with 50% variable costs of Rs. 5 lacs and fixed costs of Rs. 2.5 lacs, leaving earnings before interest and taxes (EBIT) of Rs. 2.5 lacs. 2) Operating leverage was calculated at 2 times and financial leverage at 1.146 times. 3) For EBIT to double to Rs. 5 lacs, sales would need to increase 50% to Rs. 15 lacs.

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srikanth
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215 views

Corporate Finance Model Answer

The document provides a model answer to a corporate finance question calculating operating and financial leverage for Simplex Ltd. It shows: 1) Simplex Ltd's sales were Rs. 10 lacs with 50% variable costs of Rs. 5 lacs and fixed costs of Rs. 2.5 lacs, leaving earnings before interest and taxes (EBIT) of Rs. 2.5 lacs. 2) Operating leverage was calculated at 2 times and financial leverage at 1.146 times. 3) For EBIT to double to Rs. 5 lacs, sales would need to increase 50% to Rs. 15 lacs.

Uploaded by

srikanth
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
You are on page 1/ 3

NMIMS Global Access

School for Continuing Education (NGA-SCE)


Course: Corporate Finance
Model Answer

Important Instructions:

- The below questions and answers are only for reference purpose “Model answers” and will
help you understand how to prepare Assignments
- Please do not use this for submitting any assignment
- Understand the following:
 3 major aspects of Assignment [Introduction, Concept and conclusion]
 Marks allotted for every section

Question:
Simplex Ltd generated sales for the year amounting Rs 10 lacs. The variable cost is 50 % of sales. The
fixed cost being 25 % of sales that is, Rs 250000. The company also has an interest obligation as the
amount of debt employed by the company in its capital structure is Rs 4 lacs @ 8 %.

You are required to calculate both the operating and financial leverage for the company. Further,
What if the firm wants to double its earnings before interest and taxes (EBIT), how much of an increase
in sales would be essential on a percentage basis? Give sufficient reasons and calculations supporting
your answer.

Answer:

Particulars Amount Marks allotted

Sales 1000000

Less : variable cost (500000)

= contribution 500000 1 mark

Less: fixed cost (250000)

= EBIT 250000 1 mark

Less: interest (32000)


NMIMS Global Access
School for Continuing Education (NGA-SCE)
Course: Corporate Finance
Model Answer

= EBT 218000 1 mark

Operating leverage 500000/ 1 mark for formula

= contribution / EBIT 250000 1 mark for correct


answer
= 2 times

Financial leverage 250000/ 1 mark for formula

=EBIT/EBT 218000 1 mark for correct


answer
=1.146 times

Sales required to double the EBIT can be calculated as


under

Operating leverage is two times it means that 50 %


increase in sales volume causes a 100% increase in the
operating profit or EBIT 1 mark for the
Thus , at the sales of Rs15 lacs , the EBIT will be Rs 5 interpretation
lacs

The same can be verified as under:

Sales 1500000

Less : variable cost (750000)

= contribution 750000 1 mark for the


contribution
Less: fixed cost (250000)
1 mark for the EBIT
= EBIT 500000
NMIMS Global Access
School for Continuing Education (NGA-SCE)
Course: Corporate Finance
Model Answer

Total marks 10 marks

***************

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