Exercises Breakeven point & ROE PDF

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Exercise – Breakeven point Comment on the evolution of the operating breakeven point of this company. (8/10 sentences maximum). N-1

N

12 200

10 000

Variable costs

50%

50%

Operating fixed costs

5 230

3 290

Sales

Exercise – Return on Equity Compute the respective ROEs of companies A and B and then determine how much company A would need to increase its profit margin in order to match company's B ROE.

Profit margin

Asset turnover

Equity Multiplier

Company A

2.6%

1.92

1.79

Company B

7.9%

1.8

2.3

1

Solutions Exercise – Breakeven point Comment on the evolution of the operating breakeven point of this company. (8/10 sentences maximum). Sales

N-1

N

12 200

10 000

Variable costs

50%

50%

Operating fixed costs

5 230

3 290

Step 1: calculation of contribution margin (CM) CM = 1 – 50% = 50% Step 2: calculation of breakeven point (BEP) BEP = Fixed costs / CM Year N-1: 5 230 / 50% = 10 460 Year N: 3 290 / 50% = 6 580 Step 3: calculation of safety margin (SM) and safety margin index (SM index) SM = Sales - BEP Year N-1: SM = 12 200 - 10 460 = 1 740 SM index = 1 740 / 12 200 = 14.3% Year N: 10 000 - 6 580 = 3 420 SM index = 3 420 / 10 000 = 34.2% Conclusion: SM and SM index are improving between N-1 and N. The company is less risky over time.

2

Exercise – Return on Equity Compute the respective ROEs of companies A and B and then determine how much company A would need to increase its profit margin in order to match company's B ROE.

Profit margin

Asset turnover

Equity Multiplier

Company A

2.6%

1.92

1.79

Company B

7.9%

1.8

2.3

ROE = Profit margin x Asset turnover x Equity multiplier ROE (company B) = 7.9% x 1.8 x 2.3 = 32.7% X = Profit margin (company A) X x 1.92 x 1.79 = 32.7% X = 32.7% / (1.92 x 1.79) = 9.5% Profit margin (company A) = 2.6% 9.5% = 3.65 x 2.6%

Conclusion: company A would need to multiply by 3.65 its profit margin in order to match company's B ROE.

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