: Given below is selected information about two companies. Company A Company B S

Question

: Given below is selected information about two companies.

Company A Company B
Sales $10,000 $10,000
Fixed Costs 4,000 7,000
Variable Costs 5,000 2,000

a. Calculate net income for each company.





b. What is operating leverage? Is it present in the operations of these two companies? If so, which company uses the greater amount of operating leverage?





c. If sales decrease by 10%, which company will report the higher net income?






d. If sales increase by 10%, which company will report the higher net income?

Explanation / Answer

net income for A =sales - variable costs -fixedcosts =10,000-4000-5000 =1000 net income for B = 1000 Operating Leverage takes into account the proportion of fixed costs to variable costs in the operations of a business. If the degree of operating leverage is high, it means that the earnings before interest and taxes would be unpredictable for the company, even if all the other factors remain the same. company B uses high operating leverage C) company A d) company A since variable cost is high for company A

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