Manual System Computerized System Degree of Operating Leverage Increase in Net I

Question

Manual
System

Computerized
System

Degree of Operating Leverage

Increase in Net Income

Margin of Safety ratio

Casas Modernas of Juarez, Mexico, is contemplating a major change in its cost structure. Currently, all of its drafting work is performed by skilled draftsmen. Rafael Jiminez, Casas’ owner, is considering replacing the draftsmen with a computerized drafting system. However, before making the change, Rafael would like to know the consequences of the change, since the volume of business varies significantly from year to year. Shown below are CVP income statements for each alternative.

Manual
System

Computerized
System

Sales $1,720,000 $1,720,000 Variable costs 1,376,000 688,000 Contribution margin 344,000 1,032,000 Fixed costs 114,667 802,667 Net income $229,333 $229,333

Explanation / Answer

Degree of operating leverage = contribution / operating income

Manual system :

DOL = 344000 / 229333 = 1.5

Computerised system:

DOL = 1032000 / 229333 = 4.5

2. If sales increased by 118000

Particulars Manual system Computerised system

Sales 1838000 1838000

Variable cost 1376000 688000

Contribution 462000 1150000

Fixed cost 114667 802667

Net income 347333 347333.

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