Firm A has $10,000 in assets entirely financed in equity.
Firm B also has $10,000 in assets, but these assets are financed by $5,000 in debt (with a 10% rate of interest) and $5,000 equity.
Both firms sell 10,000 units of output at $2.50 per unit. The variable costs of production are $1, and the fixed production costs are $12,000. (To ease the calculation, assume no income tax.)
a) What is the opening income (EBIT) for both firms?
b) What are the earnings after interest?
c) If sales increase by 10 percent to 11,000 units, by what percentage will each firm's earnings after interest increase?
- Determine the earnings after taxes and compute the percentage increase in these earnings from the answers derived in part (b).
d) Why are the percentage changes different?