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Fixed costs are assumed to be $500,000 per year. The company estimates the variable cost per...

Fixed costs are assumed to be $500,000 per year. The company estimates the variable cost per unit (v) to be $75 and expects to sell each unit for $425. There are no taxes and the required rate of return is 22% per year. Suppose that sales are currently estimated to be 5000 units per month.

What is the degree of operating leverage? (Round to 1 decimal place, ie 2.3)

Using your answer from above, estimate what the new monthly operating cash flow (OCF) will be if sales increase by 100 units: $ (Round your answer to the nearest whole dollar, and do NOT use commas in your response, ie. 456789)

Expert Solution

A)At sales of 5000 units :

contribution = [price- variable cost] *unit sold

=[425 - 75 ] *5000

= 350 * 5000

= $ 1750000

Net operating income =contribution -fixed cost

= 1750000-500000

= 1250000

Degree of operating leverage = contribution /net operating income

= 1750000/1250000

= 1.40

b)Variable cost varies with number of units sold /produced whereas fixed cost remains constant irrespective of number of units sold /produced.

so with increase in sales of 100 units ,contribution will increase by : 100[425-75]

= $ 35000

new monthly operating cash flow = Net operating income calculated in part a + increase in contribution

= 1250000+35000

= $ 1285000

jeff jeffy answered 1 year ago

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