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Goldberg-Scheinman: Degree of Operating Leverage
Break Even Point Volume
Selling Price per Unit $ 30
Less: Variable Expenses per Unit Printing and Binding $ 6
Administrative Cost $ 2
Sales Commission $ 1
Bookstore Discount $ 7
Authors Royalties $ 4
Total Variable Expenses $ 20
Contribution per Unit $ 10
Total Fixed Expenses $ 100,000
Breakeven Point Volume Units = Total Fixed Expenses/Contribution per Unit = $ 100,000/$ 10 = 10,000 units
Breakeven point Sales Revenue 10,000 X $ 30 = $ 300,000
Output to Generate a Total Profit of $ 60,000
Total Fixed Expenses $ 100,000
Profit Required $ 60,000
Total Contribution required $ 160,000
Contribution per Unit $ 10
Units required to make $ 60,000 = Total contribution required/contribution per unit = $ 160,000/$ 10 = 16,000 units
Sales revenue 16,000 X $ 30 = $ 480,000
Less: Fixed Expenses 16,000 X $ 20 = $ 320,000
Contribution = $ 160,000
Less Fixed Expenses = $ 100,000
Profit = $ 60,000
Operating Leverage
Degree of operating leverage can be calculated as:
Selling price per unit Variable expenses per unit X Units Sold / (Selling price per unit Variable expenses per unit) X Units sold Total Fixed Expenses
At breakeven point
($ 30 $ 20) X 10,000/[($30 $ 20) X 10,000] $ 100,000 = 0
At Sales of 11,000 units
($ 30 $ 20) X 11,000/ [($30 $ 20) X 11,000] $ 100,000 = 11
At Sales of 15,000 units
($ 30 $ 20) X 15,000/ [($30 $ 20) X 15,000] $ 100,000 = 3
At Sales of 16,000 units
($ 30 $ 20) X 16,000/ [($30 $ 20) X 16,000] $ 100,000 = 2.5466
Operating leverage is a magnification of profits which results from having fixed operating costs in the firm. There will be an increase in the operating leverage as the ratio of fixed costs to variable costs increases. With a high ratio of fixed costs to variable costs, a small percentage change in sales will lead to a large percentage change in operating profits . (Campus.Murray, n.d.)
However, when the sales is increased beyond the breakeven point the effects of operating leverage diminish since the sales base being used for calculating the operating leverage is increased (exinfm.com, n.d.). Operating leverage is the extent to which an organization uses fixed costs in its cost structure. A firm having a large amount of fixed costs and a lower volume of variable costs can be said to have a high operating leverage. High level of operating leverage enables a firm to increase its net income from an increased sales volume. In other words, in a high leverage situation the firm will find a larger proportion of losses after it reach the break-even point (Accounting202Home, n.d.).
In the case of Goldberg-Scheinman Publishing Company it can be observed that with a change of 10% sales from the breakeven point the operating leverage went up to 11, whereas when the sales reached 15,000 units the operating leverage gets diminished to 3 and with 16,000 units the operating leverage further diminished. Therefore it can be stated that Goldberg-Scheinman Publishing Company is highly leveraged.
Bibliography
Accounting202Home, n.d. Chapter 8 Outline Cost-Volume-Profit Analysis.
Campus.Murray, n.d. Operating Leverage. Web.
exinfm.com, n.d. What is Operating Leverage.
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