Question 1

If The Tower of Pizza has a cash flow degree of operating leverage equal to 1.15, then a 20 percent increase in revenue should drive a 35 percent increase in pretax operating cash flow.

Accepted Answer

False

Question 2

The cash flow degree of operating leverage will change for different levels of revenue.

Accepted Answer

The cash flow degree of operating leverage (CFDOL) measures the percentage change in cash flow from operations for a certain percentage change in revenue. As revenue increases, the CFDOL may increase or decrease depending on the company's cost structure and fixed costs. Therefore, the CFDOL will change for different levels of revenue.

Question 3

Taxes do not enter into the equation for the cash flow degree of operating leverage because both fixed costs and pretax operating cash flows are measured on a pretax basis.

Accepted Answer

Taxes are not factored into the calculation of operating leverage, as the cash flow and fixed costs are measured on a pretax basis.

Question 4

Distinguishing between fixed and variable costs will enable one to calculate the sensitivity of EBITDA to changes in revenue.

Accepted Answer

Knowing which costs are fixed and which are variable allows for the calculation of the contribution margin, which is the amount of revenue left over after variable costs are deducted. This contribution margin can be used to calculate the break-even point and the sensitivity of EBITDA (earnings before interest, taxes, depreciation, and amortization) to changes in revenue.

Question 5

A project with a higher proportion of fixed costs will have cash flows and accounting profits that are more sensitive to changes in revenues than an otherwise identical project with a lower proportion of fixed costs.

Accepted Answer

A higher proportion of fixed costs means that a larger proportion of the costs are incurred even if there is no or little revenue. As a result, a small decrease in revenue can lead to a much larger decrease in profits and cash flows, making the project more sensitive to changes in revenues. On the other hand, a project with a lower proportion of fixed costs will have a smaller impact on profits and cash flows due to changes in revenue.

Question 6

An increase in the proportion of a project's costs that are fixed will increase the degree of operating leverage for the project.

Accepted Answer

This statement is true. The degree of operating leverage is a measure of how sensitive a company's operating income is to changes in revenue, and increases as fixed costs make up a larger portion of total costs.

Question 7

Depreciation and amortization can be handled as a fixed cost of the firm, for accounting break-even purposes.

Accepted Answer

Depreciation and amortization are non-cash expenses that are spread over the useful life of an asset. They are considered fixed costs and can be included in the calculation of accounting break-even point.

Question 8

A firm that has zero fixed costs will have a cash flow degree of operating leverage equal to one.

Accepted Answer

The degree of operating leverage (DOL) measures how a firm's operating income changes with sales. With zero fixed costs, DOL is 1, indicating that operating income changes proportionally with sales.

Question 9

Operating profits and operating cash flow describe the same item.

Accepted Answer

Operating profits and operating cash flow are not the same item. Operating profits are the earnings generated from a company's core operations, while operating cash flow represents the cash that is generated or used by a company's operations.

Question 10

Operating leverage is a measure of the sensitivity of net income to changes in revenue.

Accepted Answer

The answer of Operating leverage is a measure of the...

Question 11

Break-even analysis tells us how many sales dollars must occur in order for a project to break even on a cash flow or an accounting basis.

Accepted Answer

Break-even analysis calculates the point at which a company's total revenue equals the total costs and expenses, resulting in a net income of zero. This analysis helps businesses determine how many units must be sold or how much revenue must be generated to cover all costs and expenses. It can be done on a cash flow basis or an accounting basis.

Question 12

The per-unit contribution margin is defined as the sales price of an item less its total variable cost.

Accepted Answer

The answer of The per-unit contribution margin is defined as...

Question 13

The pretax operating cash flow (EBITDA) break-even point is determined by how many units will have to be sold in order to cover the firms fixed cash expenses.

Accepted Answer

The pretax operating cash flow (EBITDA) break-even point is the point at which a firm's earnings before interest, taxes, depreciation, and amortization (EBITDA) cover its fixed cash expenses. This means that the firm has neither a profit nor a loss at this point, and selling enough units to cover the fixed cash expenses is crucial in achieving this break-even point.

Question 14

Total variable costs for a firm do not vary directly with the number of units sold.

Accepted Answer

Total variable costs are costs that vary with the level of output, meaning they do vary directly with the number of units sold. Therefore, the statement is false.

Question 15

A synonym for pretax operating cash flow is EBIT.

Accepted Answer

Pretax operating cash flow refers to the cash generated by a company's operations before taxes, while EBIT (Earnings Before Interest and Taxes) is a measure of a firm's profit that includes all expenses except interest and income tax expenses. EBIT does not directly measure cash flow.

Question 16

If a firm's accounting degree of operating leverage is 1.12, then a 10 percent increase in revenue should result in a 12 percent increase in EBIT.

Accepted Answer

The degree of operating leverage (DOL) indicates the percentage change in EBIT for a 1% change in sales. A DOL of 1.12 means that a 10% increase in revenue would result in a 1.12 * 10% = 11.2% increase in EBIT, not 12%.

Question 17

If there is no uncertainty about costs, volatility in pretax operating cash flows and accounting profits will be driven entirely by changes in revenue and operating leverage.

Accepted Answer

If there is no uncertainty about costs, then changes in revenue and operating leverage will be the only factors affecting volatility in pretax operating cash flows and accounting profits.

Question 18

EBITDA is more sensitive to changes in revenue than EBIT.

Accepted Answer

The answer of EBITDA is more sensitive to changes in...

Question 19

If Leaning Marcus' had an increase in EBIT of 24 percent with an accounting degree of operating leverage of 1.2, then the firm must have had a 20 percent increase in revenue if no other changes were involved.

Accepted Answer

The formula for accounting degree of operating leverage is %Δ EBIT / %Δ Revenue. If %Δ EBIT is 24% and the accounting degree of operating leverage is 1.2, then we can solve for %Δ Revenue as follows:

1.2 = 24% / %Δ Revenue
%Δ Revenue = 24% / 1.2
%Δ Revenue = 20%

Therefore, the firm must have had a 20% increase in revenue if no other changes were involved.

Question 20

If a project fails to break even from a pretax operating cash flow perspective, then the firm is going to have to put more cash into the project to keep it going.

Accepted Answer

If the project is not generating enough cash flow to cover its operating costs, the firm will have to inject more cash into the project to sustain it. This is necessary to avoid defaulting on any outstanding debts associated with the project and to prevent the project from being shut down.

Quiz 12: Evaluating Project Economics and Capital Rationing