Suppose that Banana Computers has $1,000 in revenue this year, along with COGS of $400 and SG&A of $100. The required rate of return on its equity is 14%, and the risk-free rate is 5%. Assume that the COGS only include the marginal costs of selling a computer. Banana is considering adding $700 worth of debt with a coupon rate of 5% and an YTM of 7.9% to its capital structure. What percent of the firm's costs are fixed, and what percent of costs are variable with the added debt? (Round the percentage answer to two decimal places.)
A) 27.9% and 72.1%
B) 72.1% and 27.9%
C) 25.23 and 74.77%
D) 74.77% and 25.23%

Question

Quizplus · Accepted Answer

The COGS of $400 are variable costs. SG&A of $100 are fixed costs. With the added debt, the interest expense is $700 * 5% = $35, which is also a fixed cost. Total costs are $400 (variable) + $100 (SG&A) + $35 (interest) = $535. Fixed costs are $135 ($100 SG&A + $35 interest), so the fixed cost percentage is $135 / $535 = 25.23%. Variable costs are $400, so the variable cost percentage is $400 / $535 = 74.77%.

Suppose That Banana Computers Has $1,000 in Revenue This Year