Bell Brothers has $3,000,000 in sales. Fixed costs are estimated to be $100,000 and variable costs are equal to 50% of sales. The company has $1,000,000 in debt outstanding at a before-tax cost of 10%. If Bell Brothers' sales were to increase by 20%, how much of a percentage increase would you expect in the company's net income?
A) 20.83%
B) 19.79%
C) 21.92%
D) 23.08%
E) 18.80%

Question

Quizplus · Accepted Answer

The percentage increase in net income is calculated using the degree of operating leverage (DOL) and the degree of financial leverage (DFL). The DOL is 2, and the DFL is 1.25, leading to a combined leverage effect of 2.5. A 20% increase in sales results in a 50% increase in net income. The percentage increase is calculated as (1.5 - 1) / 1.3 = 0.3846 or 38.46%.

Bell Brothers Has $3,000,000 in Sales