Question

Franklin Training Services (FTS) provides instruction on the use of computer software for the employees of its corporate clients. It offers courses in the clients’ offices on the clients’ equipment. The only major expense FTS incurs is instructor salaries; it pays instructors $6,000 per course taught. FTS recently agreed to offer a course of instruction to the employees of Novak Incorporated at a price of $700 per student. Novak estimated that 20 students would attend the course.

a. Relative to the number of students in a single course, is the cost of instruction a fixed or a variable cost?

b. Determine the profit, assuming that 20 students attend the course.

c. Determine the profit, assuming a 10 percent increase in enrollment (i.e., enrollment increases to 22 students). What is the percentage change in profitability?

d. Determine the profit, assuming a 10 percent decrease in enrollment (i.e., enrollment decreases to 18 students). What is the percentage change in profitability?

e. Explain why a 10 percent shift in enrollment produces more than a 10 percent shift in profitability. Use the term that identifies this phenomenon.

Answer 1

a.) The cost of instruction is fixed. As the instructors are paid in per course basis, irrespective of the number of students.

b.) If assuming the number of students to be as said, 20, Total Income will be $700*20= $14,000, Total Expense is $6,000. That gives a profit of $14,000-$6,000= $8,000. Profit is $8,000.

c.) As the enrollment increases by 10% i.e. to 22 students, Total Income also rises to $700*22= $15,400. That gives the profit of $15,400-$6,000= $9,400. Which is $1,400 more. So, the percentage of increase in profit is (1,400/8,000)*100 = 17.5%

d.) As the enrollment decreases by 10% i.e. to 18 students, Total Income also falls to $700*18= $12,600. That gives the profit of $12,600-$6,000= $6,600. Which is $1,400 less. So, the percentage of decrease in profit is (1,400/8,000)*100 = 17.5%

e.) A 10 percent shift in enrollment produces more than a 10 percent shift in profitability is because of the presence of the single fixed cost. This is called "Operating Leverage."