Arquitectos Interiores of Juarez, Mexico, is contemplating a major change in its cost

| June 2, 2016

Question

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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 signifi cantly from year to
year. Shown below are CVP income statements for each alternative.
Manual Computerized
System System
Sales $1,500,000 $1,500,000
Variable costs 1,200,000 600,000
Contribution margin 300,000 900,000
Fixed costs 50,000 650,000
Net income $ 250,000 $ 250,000
Instructions
(a) Determine the degree of operating leverage for each alternative.
(b) Which alternative would produce the higher net income if sales increased by $150,000?
(c) Using the margin of safety ratio, determine which alternative could sustain the greater
decline in sales before operating at a loss.

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