Question

Writing Assignment Operating leverage, margin of safety, and cost behaviorIn its Form 10-K Skechers U.S.A., Inc. describes itself as follows:

We design and market Skechers-branded lifestyle footwear for men, women and children, and performance footwear for men and women under the Skechers GO brand name. . . . As of February 15, 2015, we owned and operated 119 concept stores, 146 factory outlet stores and 98 warehouse outlet stores in the United States, and 51 concept stores, 33 factory outlet stores, and three warehouse outlet stores internationally.

The popularity of Skechers’ products has increased significantly in recent years. Sales increased from $1,560.3 million in 2012 to $2,377.6 million in 2014, for an increase of 52.4 percent. In the same period, operating income increased from $22.3 million to $209.0 million, for an increase of 837 percent. It should be noted that this growth was not the result of larger acquisitions of or mergers with other companies.

Required

Write a memorandum that explains how a 52 percent increase in sales could cause an 837 percent

increase 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 Skechers were likely affected by the

increase in its sales.
c. The effect of the increase in sales on Skechers’ margin of safety.

Answer 1

1. in given data, the operating profit is considered (i.e. after dedection of cost i.e. directly attributable to the product).

Here the company was benefited by the scale of economy, negotation advantage, and lower fixed cost attributable to per unit.

2. The operating profit is subject to increase in cost (fixed or otherwise) which is not directly attributable to production i.e. higher sales and distribution cost. The increse in fixed cost due to increase in production and sales should be considered for arriving at Net Profit.

3. Here the figures have been arrived based on marginal costing cocept.

4. The margin of safety (i.e surplus after Fixed cost ) will be higher after increase in sales since the Fixed cost is constant. But the increase might be more than the % increse sales since fixed cost is constant (subject to additional or semi- fixed cost ).