(c) From the DOL formula, you can see that a manufacturing plant with higher fixed costs and lower variable costs will have a higher DOL relative to a plant with higher variable costs and lower fixed costs i.e. a capital intensive production process will have a higher DOL than a labor intensive process which means that a capital intensive production process will increase profits at a faster rate (relative to quantity) than a labor intensive process. Suppose a company is currently producing 1000 units of a bottled power drink priced at $5. It is using a manufacturing process with a fixed cost of $1450 and variable cost of $2.75 per unit (i.e. AVC).
i. Calculate the DOL and the break even point for this produc- tion process. Is the company breaking even yet?
BE= Fixed Costs
Price- Variable Cost Per Unit
$5- 2.75 = 644.44
ii. If the company installs updated machinery its fixed costs rise to $2000 and AVC drops to $2.25. Calculate the DOL and break even point.
iii. At what production level should the company switch from the old machinery to the upgraded one?
Solution depicts the steps to calculate BEP and DOL in the given cases.