11
33) Rogue Tire Masters has fixed costs of $220,000. Tires sell for $95 each and have a unit variable cost of
$45. What is Rogue’s break-even point in units?
A) 4,000
B) 4,400
C) 5,200
D) 5,500
Keywords: Break-even Units
Learning Obj.: L.O. 12.2
AACSB: Analytical Thinking
34) The break-even point in sales dollars is convenient if
A) the firm sells a large amount of one product.
B) the firm deals with more than one product.
C) the price per unit is very low.
D) depreciation expense is high.
Keywords: Break-even Point in Sales Dollars
Learning Obj.: L.O. 12.2
AACSB: Analytical Thinking
35) Which of the following would be considered a fixed cost in a manufacturing setting?
A) depreciation
B) direct labor
C) sales commissions
D) direct materials
Keywords: Fixed Manufacturing Costs, Depreciation
Learning Obj.: L.O. 12.2
AACSB: Reflective Thinking
36) Which of the following would be considered a variable cost in a manufacturing setting?
A) rent
B) administrative salaries
C) insurance
D) direct labor
Keywords: Variable Manufacturing Costs, Direct Labor
Learning Obj.: L.O. 12.2
AACSB: Reflective Thinking
12
37) Mix Sweet Shop bakes and sells pies. Mix has annual fixed costs of $880,000 and a variable cost per
pie of $7.50. Each pie sells for $15.50 each. The firm expects to sell 500,000 pies annually. What is the
break-even point in pies?
A) 190,440
B) 280,000
C) 200,000
D) 110,000
Keywords: Break-even Units
Learning Obj.: L.O. 12.2
AACSB: Analytical Thinking
38) Mix Sweet Shop bakes and sells pies. Mix has annual fixed costs of $880,000 and a variable cost per
pie of $7.50. Each pie sells for $15.50 each. The firm expects to sell 500,000 pies annually. What is the
break-even point in sales dollars?
A) $3,100,000
B) $2,875,000
C) $1,705,000
D) $1,625,000
Keywords: Break-even Point in Sales Dollars
Learning Obj.: L.O. 12.2
AACSB: Analytical Thinking
39) All of the following will make the break-even point increase, other things equal, EXCEPT
A) fixed costs increase.
B) the sales price per unit is decreased due to competition.
C) variable costs increase due to higher direct labor cost.
D) the number of units sold for the year decreased.
Keywords: Break-even Point
Learning Obj.: L.O. 12.2
AACSB: Analytical Thinking
13
40) Voellers Upholstery Co. produces inexpensive leather chairs. The average selling price for one of the
chairs is $400. The variable cost per chair is $250. Voellers has average fixed costs per year of $450,000.
a. What is the break-even point in units?
b. What is the break-even point in dollar sales?
c. What would be the operating profit or loss associated with the production and sale of
(1) 3,000 chairs, (2) 4,000 chairs?
Keywords: Break-even, Operating Profit
Learning Obj.: L.O. 12.2
AACSB: Analytical Thinking
41) ABC Corp. has estimated the following income statement for its next fiscal year.
Sales
$20,000,000
Variable costs
6,000,000
Revenue before fixed costs
14,000,000
Fixed costs
9,000,000
EBIT
5,000,000
Interest expense
900,000
Earnings before taxes
4,100,000
Taxes (35%)
1,435,000
Net income
$2,665,000
a. What is the break-even point in sales dollars for the firm?
b. If the average unit cost is $20, what is the break-even point in units?
Keywords: Operating Leverage, Financial Leverage, Combined Leverage, Break-even Point
Learning Obj.: L.O. 12.2
AACSB: Analytical Thinking
14
42) Techno Robots produces a functioning toy robot. At a production and sales level of 10,000 robots, the
firm has the following information:
Selling price per unit = $15
Variable costs per unit = $8
EBIT = $17,500
What is the break-even point in units for the firm?
Keywords: Break-even Point in Units
Learning Obj.: L.O. 12.2
AACSB: Analytical Thinking
43) Wheely Bike Manufacturers expects to produce and sell 9,000 made–to-order bicycles this year.
Variable costs are 40 percent of sales while fixed costs total $600,000. At what price must each bicycle be
sold for Wheely to earn EBIT of $450,000?
Keywords: Break-even Analysis, EBIT, Selling Price
Learning Obj.: L.O. 12.2
AACSB: Analytical Thinking
44) JKE, Inc. has a break-even sales level of $10,000,000 and has fixed costs of $4,000,000 per year. The
selling price per unit is $200. What is the variable cost per unit?
Keywords: Cost-Volume-Profit Analysis, Break-even Point in Sales, Variable Cost per Unit
Learning Obj.: L.O. 12.2
AACSB: Analytical Thinking
15
45) DXZ, Inc. currently produces one product which sells for $250 per unit. The company’s fixed costs are
$75,000 per year; variable costs are $205 per unit. A salesman has offered to sell the company a new piece
of equipment which will increase fixed costs to $100,000. The salesman claims that the company’s break-
even point will not be altered if the company purchases this equipment. What will be the company‘s new
variable cost per unit?
Keywords: Break-even Analysis, Variable Cost per Unit
Learning Obj.: L.O. 12.2
AACSB: Analytical Thinking
46) Stan‘s Cans, Inc. expects to earn $150,000 next year after taxes on sales of $2,200,000. Stan’s
manufactures only one size of garbage can. Stan sells his cans for $8 apiece and they have a variable cost
of $2.40 apiece. Stan’s tax rate is currently 34%.
a. What are the firm’s expected fixed costs for next year?
b. What is the break-even point in units?
Keywords: Break-even Point, Fixed Costs
Learning Obj.: L.O. 12.2
AACSB: Analytical Thinking
47) The Western Boot Company will produce 94,000 pairs of boots next year. Variable costs are 35 percent
of sales, while fixed costs total $223,000. At what price must each pair of boots be sold for Western to
obtain an EBIT of $1,391,500?
Keywords: Cost-Volume-Profit Analysis
Learning Obj.: L.O. 12.2
AACSB: Analytical Thinking
16
48) The Knight Corporation projects that next year its fixed costs will total $240,000. Its only product sells
for $34 per unit, of which $18 is a variable cost. The management of Knight is considering the purchase of
a new machine that will lower the variable cost per unit to $14. The new machine, however, will add to
fixed costs through an increase in depreciation expense. How large can the addition to fixed costs be in
order to keep the firm‘s break-even point in units produced and sold unchanged?
Keywords: Break-even Analysis
Learning Obj.: L.O. 12.2
AACSB: Analytical Thinking
49) When is it useful or sometimes necessary to compute the break-even point in terms of sales dollars
rather than units of output?
Keywords: Break-even Point in Sales Dollars
Learning Obj.: L.O. 12.2
AACSB: Reflective Thinking
Learning Objective 12.3
1) Operating leverage is easier to control and manage than financial leverage because operating leverage
deals with the internal workings of the company while financing deals with outside parties.
Keywords: Operating Leverage, Financial Leverage
Learning Obj.: L.O. 12.3
AACSB: Reflective Thinking
17
2) A company that sells common stock and uses the money to pay off a loan is increasing its use of
financial leverage.
Keywords: Financial Leverage, Common Stock, Debt
Learning Obj.: L.O. 12.3
AACSB: Reflective Thinking
3) A company that sells preferred stock and uses the money to pay off a loan is decreasing its amount of
financial leverage.
Keywords: Financial Leverage, Preferred Stock, Debt
Learning Obj.: L.O. 12.3
AACSB: Reflective Thinking
4) Financial risk applies to both the additional variability in earnings available to common shareholders
and the additional chance of insolvency caused by the use of financial leverage.
Keywords: Financial Risk, Variability, Insolvency, Financial Leverage
Learning Obj.: L.O. 12.3
AACSB: Reflective Thinking
5) A CEO concerned about variability of earnings per share may try to offset high operating leverage with
a capital structure that is mostly debt in order to take advantage of the interest tax shield.
Keywords: Variability of EPS, Combined Leverage, Operating Leverage, Financial Leverage
Learning Obj.: L.O. 12.3
AACSB: Reflective Thinking
6) Operating leverage means financing a portion of a firm’s earnings per share with debt.
Keywords: Operating Leverage
Learning Obj.: L.O. 12.3
AACSB: Reflective Thinking
7) Operating leverage contributes ultimately to the variability of a firm‘s earnings per share.
Keywords: Operating Leverage, Variability of EPS
Learning Obj.: L.O. 12.3
AACSB: Reflective Thinking
18
8) Operating leverage is measured as the responsiveness of the firm’s earnings before interest and taxes
relative to fluctuations in sales.
Keywords: Operating Leverage
Learning Obj.: L.O. 12.3
AACSB: Reflective Thinking
9) Financial leverage is typically more under the control of management than is operating leverage
because the nature of the product often dictates the type of production process needed.
Keywords: Operating Leverage, Financial Leverage
Learning Obj.: L.O. 12.3
AACSB: Reflective Thinking
10) Operating leverage is the responsiveness of a firm‘s EBIT to changes in sales revenues.
Keywords: Operating Leverage
Learning Obj.: L.O. 12.3
AACSB: Reflective Thinking
11) The more fixed-charge securities (such as bonds and preferred stock) the firm employs in its financial
structure, the greater its financial leverage.
Keywords: Financial Leverage
Learning Obj.: L.O. 12.3
AACSB: Analytical Thinking
12) An increase in financial leverage will increase the absolute value of EPS, everything else equal.
Keywords: Financial Leverage, EPS
Learning Obj.: L.O. 12.3
AACSB: Analytical Thinking
13) If a company sells bonds and uses the proceeds to buy back common stock, the company’s financial
leverage with increase.
Keywords: Financial Leverage
Learning Obj.: L.O. 12.3
AACSB: Analytical Thinking
19
14) The presence of debt and/or preferred stock in a firm’s financial structure means the firm is using
financial leverage.
Keywords: Debt, Preferred Stock, Financial Leverage
Learning Obj.: L.O. 12.3
AACSB: Reflective Thinking
15) Because fixed costs do not vary with a firm’s revenues, firms with high levels of fixed cost enjoy lower
levels of operating risk because their costs are more certain, making budgeting easier.
Keywords: Fixed Costs, Operating Leverage
Learning Obj.: L.O. 12.3
AACSB: Analytical Thinking
16) If a firm’s production process requires high operating leverage (use of fixed costs), then the firm
should finance its assets with debt, so that the cost of capital will be reduced and financing costs will
remain fixed.
Keywords: Operating Leverage, Financial Leverage, Total Leverage
Learning Obj.: L.O. 12.3
AACSB: Analytical Thinking
17) Because financial markets can be extremely volatile, with bond and stock prices changing significantly
from day to day, a firm’s management has much greater control over the firm‘s operating leverage than
over its financial leverage.
Keywords: Operating Leverage, Financial Leverage
Learning Obj.: L.O. 12.3
AACSB: Reflective Thinking
18) All of the following are likely to result in the use of less debt in a company‘s capital structure EXCEPT
A) desire to maintain financial flexibility.
B) desire to maintain a high credit rating.
C) insufficient internal funds.
D) a decrease in a company‘s marginal tax rate.
Keywords: Optimal Capital Structure, Financial Leverage
Learning Obj.: L.O. 12.3
AACSB: Reflective Thinking
20
19) Which of the following transactions will lower a company‘s financial leverage?
A) A mortgage loan is obtained and the proceeds are used to pay off existing short-term debt.
B) Preferred stock is sold and the proceeds are used to pay off existing short-term debt.
C) Common stock is sold and the proceeds are used to pay off existing short-term debt.
D) Short-term debt is obtained to get the company through a period of negative net income and cash
flow.
Keywords: Financial Leverage, Common Stock, Debt
Learning Obj.: L.O. 12.3
AACSB: Analytical Thinking
20) Dakota Oil, Inc. reported that its sales and EBIT increased by 10%, but its EPS increased by 30%. The
much larger change in earnings per share could be the result of
A) high operating leverage.
B) high financial leverage.
C) a high percentage of credit sale collections from prior years.
D) high fixed costs of production.
Keywords: Financial Leverage, Operating Leverage
Learning Obj.: L.O. 12.3
AACSB: Reflective Thinking
21) ACME, Inc. reported the following income statement for 2009:
Sales
$2,500,000
Variable Costs
900,000
Fixed Operating Costs
700,000
EBIT
900,000
Interest Expense
200,000
EBT
700,000
Taxes (30%)
210,000
Net Income
$490,000
Earnings Per Share
$4.90
If ACME’s sales next year increase by 20%, what will ACME’s earnings per share be?
A) $5.76
B) $6.45
C) $7.14
D) $7.58
Keywords: Operating Leverage, Financial Leverage, Earnings Per Share
Learning Obj.: L.O. 12.3
AACSB: Analytical Thinking