Income statements for three companies are provided below: Company A Company B Company CSales (20 units) $1,000 $1,000 $1,000 Less variable costs 600 300 ? Less fixed costs 200 500 800 Net income $200 $200 $200 Required: (a) Prepare new income statements for the firms assuming each sells one additional unit (i.e. each firm sells 21 units)(b) Briefly describe the effect of cost structure on profitability.
What will be an ideal response?
Answers will vary.
(a) Income statements
| Company A | Company B | Company C | ||||||||||||
| Sales (21 units) | $ | 1,050 | $ | 1,050 | $ | 1,050 | ||||||||
| Less variable costs | 630 | 315 | ? | |||||||||||
| Less fixed costs | 200 | 500 | 800 | |||||||||||
| Net income | $ | 220 | $ | 235 | $ | 250 | ||||||||
(b) Companies with high operating leverage experience higher profitability when sales increase. The more fixed costs, the higher the fluctuation in net income. Company C has the highest operating leverage, and it experienced the greatest increase in net income with the increase in sales volume.
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