Question 2
Heat Inc. sells computer hard drives, and the market is competitive (i.e., sales price will not be affected
by Heat's sales volume). Its EBIT for 2022 was $69,000 when the sales quantity was 500 units. In 2023,
its EBIT was $119,000 when the sales quantity was 700 units.
a) Calculate its contribution margin per unit and total fixed costs.
b) Calculate the degree of operating leverage for 2022 and 2023.
c) If Heat changes its production technology by doubling its fixed costs and the breakeven
(indifferent) quantity is 1,120 units, find the new contribution margin.
Heat has $40,000 debt that pays annual interest of 15% and 2,000 outstanding common shares that are
trading at $25. Its tax rate is 30%.
d) Calculate EPS for 2022 and 2023.
e) Calculate the degree of financial leverage for 2022 and 2023.
f) Calculate the degree of total leverage for 2022 and 2023.
g) Heat considers borrowing $20,000 new debts (that also pay 15% interest) to buy back common
shares (at current price of $25 per share), what is the breakeven (indifferent) sale quantity?