Question

Company A is a manufacturer with sales of $3,500,000 and a 50% contribution margin. Its fixed costs equal $1,200,000. Company B is a consulting firm with service revenues of $3,400,000 and a 20% contribution margin. Its fixed costs equal $150,000.

Compute the degree of operating leverage (DOL) for each company. Which company benefits more from a 20% increase in sales.

Answer 1

Solution

Company A will benefit more by the change of 20%.

Working

Degree of Operating Leverage

Contribution Margin/Operating Income

.

	Company A	Company B
Sales	$    3,500,000	$    3,400,000
Variable Cost	$    1,750,000	$    2,720,000
Contribution Margin	$    1,750,000	$        680,000
Less: Fixed Expenses	$    1,200,000	$        150,000
Net income	$        550,000	$        530,000
CM ratio	3.18	1.28
Change in sales	20%	20%
Change in income	64%	26%