ACADEMY OF COMMERCE

LEVERAGE (HONOURS)

YEAR-2006
A firm has sales of Rs.5,00,000, variable cost of Rs.3,50,000 and fixed cost of Rs.1,00,000 and debt of
Rs.2,50,000 at 10% rate of interest. What is Combined Leverage? If the firm wants to double its EBIT,
how much of a raise in sales would be needed on a percentage basis?

Answer: Combined Leverage=6

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The amount of sales has to be increased by 33 %
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YAER- 2006
From the following information of T. Ltd. calculate the degree of operating leverage, financial leverage
and combined leverage for each situation A and B under financial plans I, II and III. Also indicate which
of the above plans is most risky and which one is least - risky:
Production prices and sales 1,000 units
Selling price per unit Rs. 20
Variable cost per unit Rs. 15
Fixed cost (operating):
Situation –A Rs. 3,000
Situation –B Rs. 4,000
Capital structure:
Plan
I II III
Rs. Rs. Rs.

Equity 7,000 5,000 3,000

10% Debt 3,000 5,000 7,000
10,000 10,000 10,000

Answer:
Plan – I Plan – II Plan - III
A B A B A B
DOL 2.5 5 2.5 5 2.5 5
DFL 1.18 1.43 1.33 2 1.54 3.33
DCL 2.95 7.15 3.325 10 3.85 16.65
Plan – I under situation A is least risky and Plan – III under situation B is most risky.

YAER-2007
From the following information , compute sales:
DOL-2 , DFL-3 , interest Rs. 3,00,000 and contribution is 40% of sales.

Answer: Sales = Rs. 22,50,000

YEAR-2008
Relevant information about three companies are given below:
BIL PIL MIL

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Annual production capacity (units) 1,00,000 1,50,000 2,50,000

Capacity utilization and sales 75% 75% 75%
Unit Selling Price (Rs.) 40 50 50
Unit Variable Cost (Rs.) 15 15 20
Fixed cost p.a. (Rs.) 2,00,000 3,00,000 5,00,000
Equity Capital (Rs.) 5,00,000 7,00,000 10,00,000
[1,000 shares for each company]
10% Preference Share Capital (Rs.) - 50,000 1,00,000
15% Debenture (Rs.) 1,00,000 2,00,000 3,00,000
Calculate Operating Leverage, Financial Leverage, Combined Leverage and EPS of these three
companies and comment.

Answer:
BIL PIL MIL
Operating Leverage 1.12 1.08 1.10
Financial Leverage 1.009 1.01 1.01
Combined Leverage 1.13 1.09 1.11
EPS (Rs.) 830 1,798.75 2,530

YEAR-2010
1. The following information have been taken from the Income Statement of X Ltd.:
Fixed operating expenses Rs. 1,200
Fixed financial charges Rs. 600
Earning before tax Rs. 400
Calculate percentage of change in EPS, if sales increase by 10%.

Answer: EPS will be increase by 55%.

2. The capital structure of Moon Ltd. is given below: Rs. (in Lakh)
Equity Share Capital (Rs. 10 each per share) 10.00
Retained earnings 6.00
10% Preference Share Capital 4.00
20.00
The firm has planned to undertake an expansion scheme of Rs. 10,00,000 which can be financed
(i) entirely by issue of equity shares of Rs. 10 each, or (ii) by issue of 12% Debentures of Rs. 100
each at par.
As a result of expansion, sales and operating fixed cost will increase by 60% and 75%
respectively. The other relevant information is given below:
Sales Rs. 50,00,000
Variable Cost 60%
Operating Fixed Cost Rs. 5,00,000
Corporate Tax 40%
Calculate Leverage and EPS before and after expansion and give your opinion for taking
appropriate decision with respect to financing.

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Answer:
After Expansion
Before
Equity Financing Debt Financing
Expansion
(Rs.) (Rs.)
DOL 1.33 1.38 1.38
DFL 1.05 1.03 1.09
DCL 1.397 1.421 1.504
EPS 8.60 6.775 12.83

3. A multi-product company has the following costs and output data for the year 2008-09:
Product
Total
X Y Z
Sales mix 40% 35% 25%
Unit selling price (Rs.) 20 25 30
Variable cost per unit (Rs.) 10 15 18
Fixed cost (Rs.) 1,50,000
Sales (Rs.) 5,00,000
Find out break-even point of sales.

Answer: P/V ratio = 0.44; Break-even point of sales = Rs. 3,40,909.

4. Which of the following financial plans would you recommend and why?
Particulars Equity plan Equity preference plan Equity debt plan
Earning per share Rs. 9.50 Rs. 8 Rs. 11.25
Price earning ratio 20 17 16

Answer:
Particulars Equity Plan Equity Preference Plan Equity Debt Plan
Market Price per share 190 136 180
(Rs.)
The recommended plan is Equity Plan.

YEAR-2011
1. Malancha Plast Ltd. provides you the following information:
Capital Gearing Ratio: 3
Fixed Cost: 1/3rd of total operating cost
Dividend Yield: 6%
Operating Ratio: 75%
Ratio of 18% Preference Shares to 15% Debentures: 12.5%
Dividend Payment Ratio: 30%
Accumulated Reserves: Rs. 4,00,000
Capital Employed: Rs. 24,00,000
Market Price of an Equity Share Rs. 10: Rs. 135
Tax Rate: 40%

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Prepare an Income Statement and calculate the degree of operating leverage, financial leverage,
combined leverage.

Answer: DOL = 2; DFL = 1.33; DCL = 2.67.

YEAR-2012
1. Consider the following information for S Ltd.: Rs. in lakhs
EBIT 1,120
EBT 320
Fixed cost 700
Calculate the percentage of changes in EPS for increase in sales by 5%.

Answer: EPS will be increased by 28.4375%.

2. Given the following information –

Sales (10,000 units) Rs. 10,00,000
Variable cost per unit Rs. 60
Interest Rs. 1,00,000
EBT Rs. 2,00,000
DCL 2.5
Calculate Operating Leverage and Financial Leverage.

Answer: Operating leverage = 1.33; Financial leverage = 1.88.

YEAR-2013
Anurup Ltd. has Equity share capital of Rs. 5,00,000 divided into shares of Rs. 100 each. It wishes to
raise Rs. 3,00,000 for expansion-cum-modernisation scheme. The company plans the following
financing alternatives:
I. By issuing Equity shares of Rs. 100 each.
II. Rs. 1,00,000 by issuing Equity shares of Rs. 100 each and Rs. 2,00,000 through issue of 10%
Debentures.
III. By raising loan at 10% p.a.
IV. Rs. 1,00,000 by Equity shares of Rs. 100 each and Rs. 2,00,000 by issuing 8% Preference shares
of Rs. 100 each.
You are required to suggest the best alternative giving you comment assuming that the estimated
earning before interest and taxes (EBIT) after expansion Rs. 1,50,000 and Corporate tax rate is 35%.

Answer:
Plans I II III IV
EPS (Rs.) 12.19 14.08 15.60 13.58
Plan III should be accepted by the company.

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YEAR-2014
A company has the choice of issuing 10% debentures or Rs. 100 equity shares to raise Rs. 20 lakh to
meet its long-term investment requirements. Its current capital structure consists of 20,000 ordinary
shares of Rs. 100 each, 8% debentures of Rs. 10,00,000 and 12% preference shares of Rs. 10,00,000.
Determine the level of EBIT at which EPS would be the same, whether the new funds are acquired by
issuing ordinary shares or by issuing 10% debentures. Tax rate is assumed to be 50%. (Ignore dividend
distribution tax.)
Also construct EBIT – EPS chart assuming various level of EBIT.

Answer:
The required EBIT at which EPS would be the same is Rs. 7,20,000.
Plan –I (issue of debenture) Plan-II (issue of shares)
EPS (0.50) 5.00 12.00 2.25 5.00 8.50

YEAR-2015
If the combined leverage and operating leverage of a company are 2.5 and 1.25 respectively, find the
financial leverage and P/V ratio, given that the equity dividend per share is Rs. 2, interest per year is
Rs. 2 lakhs, total fixed cost Rs. 1 lakh and sales Rs. 20 lakhs.

Answer: Financial leverage = 2; P/V ratio = 25%.

YEAR-2016
1. Zica Ltd. provides you the following information:
Capital structure: 12% Debenture Rs. 2,00,000; 9% Preference Share Capital Rs. 3,00,000 and
4,000 Equity Shares of Rs. 100 each.
Revenue and operating cost details: Sales 3,000 units @ 600 p.u.; Variable Operating Cost p.u.
Rs. 350; Fixed Operating cost Rs. 3,20,000.
Corporate Income Tax rate and Dividend Distribution Tax rate may be assumed at 30% and 10%
respectively.
Calculate DOL, DFL and DCL of Zic Ltd. Using the concept of leverage, find the percentage change
in EPS when sales increase by 10%.

Answer:
DOL = 1.74; DFL = 1.18; DCL = 2.063; EPS will be increased by 20.63%.

2. X Ltd. is considering two alternative financial plans. Following information relates to these plans:
Plan-A Plan-B
Equity Share (Rs. 10 each) (Rs.) 2,00,000 1,00,000
12% Debenture (Rs.) - 1,00,000
Profit after tax (Rs.) 28,000 19,600
Price-Earning ratio 11 7.5
Which of the plans is preferable considering the wealth maximisation objective?

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Answer:
Market price per share: for Plan-A = Rs. 15.40 and for Plan-B = Rs. 14.70
Plan-A is preferable.

YEAR-2017
The following details of P Ltd. for the year ended 31.3.2016 are furnished:
Operating leverage – 3:1
Financial leverage – 2:1
Interest charges p.a. Rs. 20 lakhs
Corporate tax rate 50%
Variable cost as percentage on sales 60%
Prepare the Income Statement of the company.

Answer: EAT = Rs. 10

YEAR-2018
Calculate different kinds of leverage from the following information of XYZ Company:
Production and sales 1,600 units
Selling price per unit Rs. 30
Variable cost per unit Rs. 20
Fixed operating costs:
Situation – A Rs. 4,000
Situation – B Rs. 2,000
Situation – C Rs. 6,000
Financial alternative: Plan

I II III
Equity (Rs.) 15,000 10,000 5,000
Debt carrying 10% interest (Rs.) 5,000 10,000 15,000

Answer:
Plan I Plan II Plan III
A B C A B C A B C
DOL 1.333 1.143 1.600 1.333 1.143 1.600 1.333 1.143 1.600
DFL 1.043 1.037 1.053 1.090 1.077 1.111 1.143 1.120 1.176
DCL 1.390 1.185 1.685 1.453 1.231 1.778 1.524 1.280 1.882

YEAR-2019
The selected financial data for two companies X and Y for the year ended March, 2019 are as follows:
Particulars X Y
Variable expenses as a percentage of sales 75 50

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Interest (Rs. in lakhs) 300 1,000

DOL 6 2
DFL 4 2
Income tax rate 0.35 0.35
a) Prepare Income Statements for X and Y.
b) Comment on the financial position of the companies.

Answer:
a) EAT of: X = Rs. 65; Y = Rs. 650.
b) X bears more financial risk (DFL) as compared to Y; Total risk (DCL) Of X is more as compared
to Y; the ability to meet interest cost is better of Y as compared to X.

YEAR-2022
The selected financial data for companies A and B for the current year ended March 31, 2022 are as
follows:
Particulars Company A Company B
Variable cost as a percentage of Sales 60 75
Interest (Rs.) 500 800
Degree of Operating Leverage 4 5
Degree of Financial Leverage 2 3
Income tax rate 0.30 0.30
(a) Prepare income statement of Company A and Company B.
(b) Comment on the risks of the two firms.

Answer:
EBT: Company A – Rs.500, Company B –Rs. 400
EAT: Company A- Rs. 350, Company B – Rs.280
EBIT: Company A – Rs.1,000, Company B –Rs.1,200

YEAR-2023
Details of a company for the year ended 31.3.2023 are as follows:
Sales Rs. 90 Lakhs
Profit Volume Ratio 30%
Fixed Cost (excluding interest) Rs. 10 Lakhs
10% Debt Rs. 54 Lakhs
Equity Share Capital of Rs. 10 each Rs. 75 Lakhs
Income Tax rate 40%
ROCE (Pre Tax) 13.18%
Required:
i. Calculate operating and combined leverage of the company.
ii. Calculate percentage change in EBIT, if sales increases by 10%.

Answer:
i. Operating Leverage = 1.588; Combined Leverage = 2.327
ii. Percentage increase in EBIT = 15.88%