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CA Intermediate · Financial Management and Strategic Management · Financing Decisions - Leverages

Rohan Engineering Ltd has a DOL of 2.5 and a DFL of 1.2. Its current EPS is Rs 10. If sales fall by 10%, what will be the new EPS, other things remaining constant?

The new EPS will be Rs 7.00. Combined leverage is 2.5 x 1.2 = 3, so a 10% fall in sales causes a 30% fall in EPS. Reducing Rs 10 by 30% gives Rs 7.00.

  1. ARs 7.00Correct
  2. BRs 7.50
  3. CRs 8.80
  4. DRs 13.00

Explanation

DCL = DOL x DFL = 2.5 x 1.2 = 3.0. A 10% fall in sales reduces EPS by 3.0 x 10% = 30%. New EPS = 10 x 0.70 = Rs 7.00. Rs 7.50 uses only DOL (25% fall), and Rs 8.80 uses only DFL (12% fall).

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