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Q. Illustrate the Operating Leverage?
Operating Leverage: - The operating leverage perhaps defined as the tendency of the operating profit to differ disproportional with sales. It is said to survive when a firm has to pay fixed cost regardless of volume of output or sales. The firm is supposed to have a high degree of operating leverage if it employs a greater amount of fixed cost and a smaller amount of variable cost. Alternatively a firm will have a low operating leverage when it employs a greater amount of variable cost as well as a smaller amount of fixed cost. Therefore the degree of operating leverage depends upon the amount of fixed element in the cost structure.
Operating leverage in the company is a function of three factors:-
(a) The amount of fixed cost
(b) The contribution margin
(c) The volume of sales
Formulae:-
Operating leverage = Contribution / Operating profit or C/OP
Utility: - The operating leverage point outs the impact of change in sales on operating income. If a firm has a elevated degree of operating leverage small changes in sales will have large effect on operating income. Alternatively the operating profit (EBIT) of such firm will rise at a faster rate than the increase in sales.
Likewise the operating profit of such a firm will suffer a great loss as compared to reduction in its sales.
XYZ company produces three products X,Y and Z. for the coming accounting period budgets are to be prepared based on following information. Budgeted Sales Product X 2,00
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