Question

Operating leverage arises because of:

• A. Fixed Cost of Production
• B. Fixed Interest Cost
• C. Variable Cost
• D. None of the above

Answer 1

Answer: (A)

Fixed Cost of Production

Operating leverage is the measurement of degree to which a firm incurs a combination of fixed cost and variable cost. Operating leverage relates to the result of combination of fixed cost and variable cost. A company with greater proportion of fixed cost is said to be using more operating leverage.

Operating leverage can be calculated as:

= (Price-Variable cost)*Quantity/(Price-Variable cost)*Quantity-Fixed Cost

Degree of operating leverage can be calculated as:

DOL=Sales- Variable cost/Profit