What is the Margin of SafetyWhat is Operating LeverageWhat are they and why are...

What is the Margin of Safety

What is Operating Leverage

What are they and why are they important?

Expert Solution

Margin of safety is that sales which is above the break-even point.

For example, the company sells 100 units and the break-even point is 80 units. Then, Margin of safety is 20 units

Operating leverage is a measure of determining the relationship between the growth of revenue and growth of operating income

Operating leverage= Total contribution/Operating income

Importance of operating leverage:-

1. Analyzes the behavior of fixed cost to keep the leverage on operating income high.

2. It tells that if operating leverage is higher than profit will increase if sales increases.

3. Gives information about the company's risk profile

Importance of Margin of safety

1. It indicates the relationship between actual sales and break-even point. The gap between actual sales and Break-even point is vital in keeping the gap as high as possible so that company will be in profit..

2. If the margin between Margin of Safety and Break-Even point is slim, the organization will take it as warning signal and act upon increasing the sales.

ekkarill92 answered 2 years ago

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