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Question(s) / Instruction(s):

An investment banker is analyzing two companies that specialize in the production and sale of candied apples. Old-Fashion Apples uses a labor-intensive approach, and Mech-Apple uses a mechanized system. CVP income statements for the two companies are shown below.

                                                    Old Fashion Apples    Mech-Apple

                Sales                                      $401,800              $ 401,800           

                Variable costs                      312,579                   132,340            

                Contribution margin           89,221                   269,460            

                Fixed costs                              29,341                   209,580            

                Net income                          $59,880                   $59,880            

 

The investment banker is interested in acquiring one of these companies. However, she is concerned about the impact that each company's cost structure might have on its profitability.

Required:

1)            Calculate each company's degree of operating leverage.

2)            Determine which company's cost structure makes it more sensitive to changes in sales volume.

3)            Determine the effect on each company's net income if sales decrease by 14% and if sales increase by 4.5%. Do not prepare income statements

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