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Swifty Corporation-degree of operating leverage

Swifty Corporation has sales of $1000000, variable costs of $500000, and fixed costs of $300000. Swifty’s degree of operating leverage is
a)1.17
b) 167
c) 2.50
d) 100

Answer:

c) 2.50

Explanation

So, Swifty Corporation has the following data needed to calcualte the Degree of operating Leverage,

Sales: $1,000,000

Variable Costs: $500,000

Fixed Costs: $300,000

Contribution Margin: This is the amount remaining from sales revenue after variable costs are subtracted. It represents the portion of sales revenue that contributes to covering fixed costs and generating profit.

Contribution Margin = Sales – Variable Costs

Contribution Margin = $1,000,000 – $500,000 = $500,000

Net Income: This is the profit left after subtracting both variable and fixed costs from sales.

Net Income = Contribution Margin – Fixed Costs = $500,000 – $300,000 = $200,000

Operating Leverage: The degree of operating leverage is calculated as the ratio of the percentage change in operating income to the percentage change in sales. It reflects how sensitive the company’s operating income is to changes in sales.

Operating Leverage = Contribution Margin / Net Income

Operating Leverage = $500,000 / $200,000 = 2.50

Therefore, the degree of operating leverage for Swifty Corporation is 2.50.

This indicates that for every 1% change in sales, the operating income of Swifty Corporation is expected to change by 2.50%. A higher degree of operating leverage signifies that a company’s profits are more sensitive to changes in sales, which can have both positive and negative implications depending on the situation

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