Friendly Company’s financial statement for the last month is below. sales 150,000 less: variable costs 30,000...
Friendly Company’s financial statement for the last month is below.
sales 150,000
less: variable costs 30,000
contribution margin 120,000
less; fixed costs 90,000
operating income 30,000
Required:
- Calculate the company’s Degree of Operating Leverage.
- Using the Degree of Operating Leverage that you have calculated for part 1, calculate an estimate of a new Net Operating Income, if sales increase by 25%.
- Given the solutions above, comment on this company if its industry has an average DOL of 6.0.
Homework Answers
| 1) | Operating Leverage = (Sales - variable cost)/ Operating Income | ||
| = (150000 - 30000) / 30000 | |||
| 4 | or 40% | ||
| 2) | It means that If sales is increase by 25% NOI will increase by 100% (25%*4 times) | ||
| 3) | if industry has DOL 6 and Friendly company has DOL 4 it means that company Net operating income is more volatile with the change in sales volume in comparison to volatility of the income of industry. | ||
| Further, DOL is generally higher if fixed cost is higher and vice versa. It also means that friendly company has employed more fixed cost than employed by the industry to earn a level of sales. | |||
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