Exercise 6-15

Arquitectos Interiores of Juarez, Mexico, is contemplating a major change in its cost structure. Currently, all of its drafting work is performed by skilled draftsmen. Alfonso Jiminez, Arquitectos owner, is considering replacing the draftsmen with a computerized drafting system. However, before making the change, Alfonso 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	$1,712,000	$1,712,000
Variable costs	1,369,600	684,800
Contribution margin	342,400	1,027,200
Fixed costs	97,829	782,629
Net income	$244,571	$244,571

(a)Determine the degree of operating leverage for each alternative.(Round answers to 2 decimal place, e.g. 1.25.)

Degree of Operating Leverage
Manual System
Computerized System

(b)Calculate the increase in Net income for each alternative if sales increased by $112,000.

Increase in Net Income
Manual System
Computerized System

Which alternative would produce the higher net income ?

Computerized SystemManual System

(c)Calculate the margin of safety ratio.(Round ratios to 2 decimal place, e.g. 0.25.)

Margin of Safety ratio
Manual System
Computerized System

Using the margin of safety ratio, determine which alternative could sustain the greater decline in sales before operating at a loss.

Computerized SystemManual System