Question

Last year, Cayman Corporation had sales of $7,000,000, total variable costs of $3,000,000, and total fixed costs of $1,500,000. In addition, they paid $480,000 in interest to bondholders. Cayman has a 35% marginal tax rate. If Cayman's sales increase 7%, what should be the increase in earnings per share?
a. 8.7%
b. 13.9%
c. 11.2%
d. 10.8%
e. 13.3%

Answer 1

Answer:

b. 13.9%

Explanation:

sales                   7,000,000

variable cost    (3,000,000)  

contribution       4,000,000

fixed cost           (1,500,000)

interest                 (480,000)  

EBT                     2,020,000

tax expense          (707,000)

net income           1,313,000

contribution margin 4,000,000 / 7,000,000 = 4/7

if sales increase by 7%:

7,000,000 x 0.07 x 4/7 x (1- 0.35) = 182,000

income after increase in sales: 1,313,000 + 182,000 = 1,495,000

increase in earnings: 1,495,000 / 1,313,000 - 1 = 0.138613861 = 13.9%