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)$1,083,000
B)$1,140,000
C)$1,200,000
D)$1,260,000
E)$1,323,000

Question

Quizplus · Accepted Answer

To find the fixed operating costs, we need to calculate the degree of operating leverage (DOL) and use the given information. The DOL is calculated as: DOL = % change in EBIT / % change in sales. Given that a 10% increase in sales leads to an 18% increase in net income, and assuming no change in interest or taxes, the DOL is 1.8. EBIT is $2.4 million, and interest is $400,000, so EBT is $2 million. Using the DOL formula and solving for fixed costs, we find that the fixed operating costs are $1,200,000.