Lincoln Lodging Inc. estimates that if its sales increase 10% then its net income will increase 18%. The company's EBIT equals $2.4 million, and its interest expense is $400,000. The company's operating costs include fixed and variable costs. What is the level of the company's fixed operating costs?
A) $1,323,000
B) $1,083,000
C) $1,140,000
D) $1,260,000
E) $1,200,000

Question

Quizplus · Accepted Answer

The degree of operating leverage (DOL) can be calculated using the formula: DOL = % change in EBIT / % change in sales. Given that the % change in EBIT is 18% and the % change in sales is 10%, DOL = 1.8. Using the formula EBIT = Sales - Variable Costs - Fixed Costs, and knowing EBIT is $2.4 million, we can solve for fixed costs. The correct fixed operating costs are $1,200,000.