Ralph is in charge of a project that has a degree of operating leverage of 2.5. What will happen to the operating cash flows if Ralph increases the number of units sold by 5 percent?
A) increase by 2 percent
B) increase by 12.5 percent
C) increase by 50 percent
D) decrease by 12.5 percent
E) decrease by 50 percent

Question

Quizplus · Accepted Answer

The degree of operating leverage (DOL) measures the sensitivity of a company's operating income to its sales. A DOL of 2.5 means that for every 1% increase in sales volume, operating cash flows (or operating income) will increase by 2.5%. Therefore, if Ralph increases the number of units sold by 5%, the operating cash flows will increase by 5% * 2.5 = 12.5%.

Ralph Is in Charge of a Project That Has a Degree