Question

Compute and Use the Degree of Operating Leverage (LO6-8) Engberg Company installs lawn sod in home yards. The company 's most recent monthly contribution format income statement follows:

Amount %age of sales
Sales $ 143,000 1001
Variable expenses 57,200 408
Contribution margin 85,800 603
Fixed expenses 19,000
Net operating income $ 66,800
Required:
1. What is the company's degree of operating leverage?
2. Using the degree of operating leverage, estimate the impact on net operating Income of a 16% Increase in sales.
3. Construct a new contribution format income statement for the company assuming a 16% Increase in sales.

Answer 1

Please see answers below.

Step-by-step explanation:

1. The company's degree of operating leverage = Contribution ÷ Net operating income

Contribution = $85,800

Net operating income = $66,800

= $85,800 / $66,800

= 1.28

2. Impact on ney operating income of a 16% increase in sales

Revised contribution = $85,800 + 16%

= $85,800 + $13,728

= $99,528

Revised net operating income = $99,528 - $19,000(Fixed cost)

= $80,528

Degree of operating leverage = $99,528 / $80,528

= 1.24

3. Contribution format income statement ;

Sales $143,000 + 16% = $165,880

Less variable cost $57,200 + 16% = $66,352

Contribution margin = $99,528

Less fixed cost = $19,000

Net operating income = $80,528

Answer 2

1. 1.28

2. increase in operating Income of 20,48 %

3.New Contribution Format Income Statement

Sales ($ 143,000 × 1.16) $165,880

Variable expenses ($57,200 × 1.16) ($66,352)

Contribution margin $99,528

Fixed expenses ($19,000 )

Net operating income $80,528

Step-by-step explanation:

The degree of operating leverage shows the times Earnings Before Interest and Tax will change as a result of a change in sales contribution.

Degree of operating leverage = Contribution ÷ Earnings before Interest and Tax

= $85,800 ÷ $ 66,800

= 1.28

An increase in sales of 16% will lead to an increase in operating Income of 20,48 % (16% × 1.28).