Question

Russell Preston delivers parts for several local auto parts stores. He charges clients 0.90 per mile driven. Russell has determined that if he drives 2,100 miles in a month, his average operating cost is $0.60 per mile. If he drives 3,100 miles in a month, his average operating cost is $0.50 per mile. Russell has used the high-low method to determine that his monthly cost equation is: total cost = $1,220.00 + $0.29 per mile.   

1. Determine how many miles Russell needs to drive to break even.

2. Assume Russell drove 2,500 miles last month. Without making any additional calculations, determine whether he earned a profit or a loss last month.

3.Determine how many miles Russell must drive to earn $2,135.00 in profit.

4. Prepare a contribution margin income statement assuming Russell drove 2,500 miles last month. (Enter your answers rounded to 2 decimal places.)

5. Use the above information to calculate Russell’s degree of operating leverage. (Round your answer to the 2 decimal places.)

Answer 1

Answer to Part 1.

Break Even Point (in Miles) = Fixed Cost / Contribution Margin per Mile
Contribution Margin per Mile = Selling Price per Mile – Variable Cost per Mile
Contribution Margin per Mile = $0.90 - $0.29
Contribution Margin per Mile = $0.61

Break Even Point (in Miles) = 1,220 / 0.61
Break Even Point (in Miles) = 2,000 Miles

Answer to Part 2.

Miles drove = 2,500
Profit = Contribution Margin per Mile – Fixed Cost
Profit = ($0.61 * 2,500) - $1,220
Profit = $1,525 - $1,220
Profit = $305

Answer to Part 3.

Profit = Contribution Margin per Mile – Fixed Cost
Let the Number of Mile drove be “X”
$2,135 = ($0.61 * X) - $1,220
$2,135 = $0.61 X - $1,220
$3,355 = $0.61 X
X = 5,500

Therefore, 5,500 Miles should be driven to earn a profit of $2,135.00

Answer to Part 4.

Answer to Part 5.

Degree of Operating Leverage = Contribution Margin / Net Operating Income
Degree of Operating Leverage = 1,525 / 305
Degree of Operating Leverage = 5.00