ATC 3-4 (Pg. 147) ATC 3-4 Writing Assignment Operating
leverage, margin of safety, and cost behavior
In the early years of
the 21st century the housing market in the United States was booming. Housing
prices were increasing rapidly, new houses were being constructed at a record
pace, and companies doing business in the construction and home improvement
industry were enjoying rising profits. In 2006 the real estate market had
slowed considerably, and the slump continued through 2007. Home Depot was one
major company in the building supplies industry that was adversely affected by
the slowdown in the housing market. On August 14, 2007, it announced that its
revenues for the first half of the year were 3 percent lower than revenues were
for the first six H months of 2006. Of even greater concern was the fact that
its earnings for the first half of 2007 were 21 percent lower than for the same
period in the prior year. Required Write a memorandum that explains how a 3
percent decline in sales could cause a 21 percent decline in profits. Your memo
should address the following: a. An identification of the accounting concept
involved. b. A discussion of how various major types of costs incurred by Home
Depot were likely affected by the decline in its sales. c. The effect of the
decline in sales on Home Depot’s margin of safety. D ATC 3-5 Ethical Dilemma
Opportunity to manipulate earnings E A N 1.(Operating leverage, margin of
safety, and cost behavior) In a narrative format, answer the questions posed in
the case. Case Summary 2. Why do managers put such a great amount of emphasis
on controlling fixed costs in their organizations? Case Analysis 3. What is
meant by the statement, my company has good operating leverage? How does good
operating leverage magnify earnings results with modest revenue increases?
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