Question

Impact of Increased Sales on Operating Income Using the Degree of Operating Leverage Head-First Company had planned to sell 5,000 bicycle helmets at $75 each in the coming year. Unit variable cost is $45 (includes direct materials, direct labor, variable factory overhead, and variable selling expense). Total fixed cost equals $49,500 (includes fixed factory overhead and fixed selling and administrative expense). Operating income at 5,000 units sold is $100,500. The degree of operating leverage is 1.5. Now Head-First expects to increase sales by 10% next year. Required:

1. Calculate the percent change in operating income expected. 15 %

2. Calculate the operating income expected next year using the percent change in operating income calculated in Requirement 1.

Answer 1

1/A	B	C	D	E
2	Head-First Company
3	Statement of Operating Income
4	Particulars	Qty	Rate per Unit	Value
5	Sales	5000	$ 75	$ 375,000
6	Less: Variable Cost	5000	$ 45	$ 225,000
7
8	Contribution(Sales-Variable Cost)	5000	$ 30	$ 150,000
9	Less: Fixed Cost			$ 49,500
10
11	Operating Income (Contribution-Fixed Cost)	5000		$ 100,500
12
13
14	Now in next year the Company wants to increase its sale by 10%
15	So the number of Bicycle Helmets (5000x(1+10%)	5500
16	The estimated statement of operating income will be as below
17
18	Statement of Operating Income
19	Particulars	Qty	Rate per Unit	Value
20	Sales	5500	$ 75	$ 412,500
21	Less: Variable Cost	5500	$ 45	$ 247,500
22
23	Contribution(Sales-Variable Cost)	5500	$ 30	$ 165,000
24	Less: Fixed Cost			$ 49,500
25
26	Operating Income (Contribution-Fixed Cost)	5500		$ 115,500
27
28	Particulars	Formula	Change	Change %
29	Change in Operating Income	E26-E11	$ 15,000	15%
30	Change in Sales	E20-E5	$ 37,500	10%
31
32	Degree of Operating Leverage	% change in Operating Income / % change in Sales		1.50
33
	Answer:
	1.Percentage change in Operating Income expected	15%
	2. Operating Income expected next year	$ 115,500