Question

ATech has fixed costs of $7 million and profits of $4 million. Its competitor, ZTech, is roughly the same size and this year earned the same profits, $4 million. But it operates with higher fixed costs of $8 million and lower variable costs. a. What is the degree of operating leverage (DOL) for each company

Answer 1

ATech 2.75

ZTech 3

Step-by-step explanation:

Degree of operating leverage is denoted as ;

DOL = 1 + Fixed cost/Profit

According to the information above, profit for both companies is $4,000,000 whereas the fixed costs differ by $1,000,000

•ATech degree of operating leverage

= 1 + (7,000,000/4,000,000)

= 2.75

ZTech degree of operating leverage

= 1 + (8,000,000/4,000,000)

= 3

The above means that ATech would reach its break even before ZTech because the ratio of fixed cost to variable cost is lower for ATech compared to ZTech.