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Homework answers / question archive / Enchantment Cosmetics, Inc
Enchantment Cosmetics, Inc., is a company that produces a beauty product that is marketed through leading department stores. Erica Kanes, as product manager, stated that the production division had determined to sell its product at $10 per unit. The cost structure of the company, assuming constant variable cost per unit, is TFC=$120, and AVC=$6. The company's plan to carry out an automation process that leads to capital intensive on the one hand will have an impact on increasing the total fixed cost but on the other hand, the average variable cost will decrease. The results of the company's financial analyst study show that the automation process causes the company's TFC to increase to TFC"=$300 and AVC to decrease to AVC'=$4. b. Process automation will cause business risk to increase. This can be seen from the increased sensitivity of earnings to changes in sales. Prove this statement by calculating the Degree of Operating Leverage (DOL) for the company, before and after the automation process is carried out. Provide an interpretation of the obtained DOL parameters.
