LLV Inc. originally forecasted the following financial data for next year: sales = $1,000, cost of goods sold = $675, and interest expense = $90. The firm believes that COGS will always be 67.5 percent of sales. Due to increased global demand, the firm is now projecting that sales will be 20 percent higher than the original forecast. What is the additional net income (as compared to the original forecast) the firm can expect assuming a 35 percent tax rate?
A) $59.45
B) $195.00
C) $42.25
D) $74.00

Question

Quizplus · Accepted Answer

The original sales forecast was $1,000, and with a 20% increase, the new sales forecast is $1,200 ($1,000 * 1.20). The cost of goods sold (COGS) is 67.5% of sales, so the new COGS is $810 ($1,200 * 0.675). The increase in gross profit is the increase in sales minus the increase in COGS, which is $200 ($1,200 - $1,000) - $135 ($810 - $675) = $65. After accounting for the unchanged interest expense of $90, the pre-tax income increase is still $65, as interest expense does not affect the calculation of gross profit. The additional net income, after a 35% tax rate, is $42.25 ($65 * (1 - 0.35)).

LLV Inc Originally Forecasted the Following Financial Data for Next Year