Firm A has $9,700 in assets entirely financed with equity. Firm B also has $9,700 in assets, but these assets are financed by $4,850 in debt (with a 12 percent rate of interest) and $4,850 in equity. Both firms sell 11,000 units of output at $2.30 per unit. The variable costs of production are $1, and fixed production costs are $10,000. (To ease the calculation, assume no income tax.)

1. What is the operating income (EBIT) for both firms? Round your answers to the nearest dollar.

   Firm A: $

   Firm B: $

2. What are the earnings after interest? Round your answers to the nearest dollar.

   Firm A: $

   Firm B: $

3. If sales increase by 20 percent to 13,200 units, by what percentage will each firms earnings after interest increase? To answer the question, determine the earnings after taxes and compute the percentage increase in these earnings from the answers you derived in part b. Round your answers to one decimal place.

   Firm A: %

   Firm B: %

4. Why are the percentage changes different? fill in blank with (equity financing or financial leverage)

   The answers differ because Firm A uses_______while Firm B uses _____ The successful use of _____ magnifies the percentage increase in earnings when sales expand.