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3.7: Summary

  • Page ID
    10425
  • Section Summaries 

     

    3.1 Explain Contribution Margin and Calculate Contribution Margin per Unit, Contribution Margin Ratio, and Total Contribution Margin

    • Contribution margin can be used to calculate how much of every dollar in sales is available to cover fixed expenses and contribute to profit.
    • Contribution margin can be expressed on a per-unit basis, as a ratio, or in total.
    • A specialized income statement, the Contribution Margin Income Statement, can be useful in looking at total sales and total contribution margin at varying levels of activity.

    3.2 Calculate a Break-Even Point in Units and Dollars

    • Break-even analysis is a tool that almost any business can use for planning and evaluation purposes. It helps identify a level of activity that is necessary before an organization starts to generate a profit.
    • A break-even point can be found on a per-unit basis or as a dollar amount, depending upon whether a per-unit contribution margin or a contribution margin ratio is applied.

    3.3 Perform Break-Even Sensitivity Analysis for a Single Product Under Changing Business Situations

    • Cost-volume-profit analysis can be used to conduct a sensitivity analysis that shows what will happen if there are changes in any of the variables: sales price, units sold, variable cost per unit, or fixed costs.
    • The break-even point may or may not be impacted by changes in costs depending on the type of cost affected.

    3.4 Perform Break-Even Sensitivity Analysis for a Multi-Product Environment Under Changing Business Situations

    • Companies provide multiple products, goods, and services to the consumer and, as result, need to calculate their break-even point based on the mix of the products, goods, and services.
    • In a multi-product environment, calculating the break-even point is more complex and is usually calculated using a composite unit, which represents the sales mix of the business.
    • If the sales mix of a company changes, then the break-even point changes, regardless of whether total sales dollars change or not.

    3.5 Calculate and Interpret a Company’s Margin of Safety and Operating Leverage

    • Businesses determine a margin of safety (sales dollars beyond the break-even point). The higher the margin of safety is, the lower the risk is of not breaking even and incurring a loss.
    • Operating leverage is a measurement of how sensitive net operating income is to a percentage change in sales dollars. A high degree of operating leverage results from a cost structure that is heavily weighted in fixed costs.

     

    Key Terms

     

    break-even point
    dollar amount (total sales dollars) or production level (total units produced) at which the company has recovered all variable and fixed costs; it can also be expressed as that point where Total Cost (TC) = Total Revenue (TR)
    composite unit
    selection of discrete products associated together in relation or proportion to their sales mix
    contribution margin
    amount by which a product’s selling price exceeds its total variable cost per unit
    contribution margin ratio
    percentage of a unit’s selling price that exceeds total unit variable costs
    margin of safety
    difference between current sales and break-even sales
    multi-product environment
    business environment in which a company sells different products, manufactures different products, or offers different types of services
    multiplier effect
    when the change in an input by a certain percentage has a greater effect (a higher percentage effect) on the output
    operating leverage
    measurement of how sensitive net operating income is to a percentage change in sales dollars
    relevant range
    quantitative range of units that can be produced based on the company’s current productive assets; for example, if a company has sufficient fixed assets to produce up to 10,000 units of product, the relevant range would be between 0 and 10,000 units
    sales mix
    relative proportions of the products that a company sells
    sensitivity analysis
    what will happen if sales price, units sold, variable cost per unit, or fixed costs change
    target pricing
    process in which a company uses market analysis and production information to determine the maximum price customers are willing to pay for a good or service in addition to the markup percentage
    total contribution margin
    amount by which total sales exceed total variable costs

     

    Multiple Choice

     

    1

    LO 3.1The amount of a unit’s sales price that helps to cover fixed expenses is its ________.

    1. contribution margin
    2. profit
    3. variable cost
    4. stepped cost
    2

    LO 3.1A company’s product sells for $150 and has variable costs of $60 associated with the product. What is its contribution margin per unit?

    1. $40
    2. $60
    3. $90
    4. $150
    3

    LO 3.1A company’s product sells for $150 and has variable costs of $60 associated with the product. What is its contribution margin ratio?

    1. 10%
    2. 40%
    3. 60%
    4. 90%
    4

    LO 3.1A company’s contribution margin per unit is $25. If the company increases its activity level from 200 units to 350 units, how much will its total contribution margin increase?

    1. $1,250
    2. $3,750
    3. $5,000
    4. $8,750
    5

    LO 3.2A company sells its products for $80 per unit and has per-unit variable costs of $30. What is the contribution margin per unit?

    1. $30
    2. $50
    3. $80
    4. $110
    6

    LO 3.2If a company has fixed costs of $6,000 per month and their product that sells for $200 has a contribution margin ratio of 30%, how many units must they sell in order to break even?

    1. 100
    2. 180
    3. 200
    4. 2,000
    7

    LO 3.2Company A wants to earn $5,000 profit in the month of January. If their fixed costs are $10,000 and their product has a per-unit contribution margin of $250, how many units must they sell to reach their target income?

    1. 20
    2. 40
    3. 60
    4. 120
    8

    LO 3.2A company wants to earn an income of $60,000 after-taxes. If the tax rate is 32%, what must be the company’s pre-tax income in order to have $60,000 after-taxes?

    1. $88,235
    2. $19,200
    3. $79,200
    4. $143,000
    9

    LO 3.2A company has pre-tax or operating income of $120,000. If the tax rate is 40%, what is the company’s after-tax income?

    1. $300,000
    2. $240,000
    3. $48,000
    4. $72,000
    10

    LO 3.3When sales price increases and all other variables are held constant, the break-even point will ________.

    1. remain unchanged
    2. increase
    3. decrease
    4. produce a lower contribution margin
    11

    LO 3.3When sales price decreases and all other variables are held constant, the break-even point will ________.

    1. remain unchanged
    2. increase
    3. decrease
    4. produce a higher contribution margin
    12

    LO 3.3When variable costs increase and all other variables remain unchanged, the break-even point will ________.

    1. remain unchanged
    2. increase
    3. decrease
    4. produce a lower contribution margin
    13

    LO 3.3When fixed costs decrease and all other variables remain unchanged, the break-even point will ________.

    1. remain unchanged
    2. increase
    3. decrease
    4. produce a lower contribution margin
    14

    LO 3.3When fixed costs increase and all other variables remain unchanged, the contribution margin will ________.

    1. remain unchanged
    2. increase
    3. decrease
    4. increase variable costs per unit
    15

    LO 3.4If the sales mix in a multi-product environment shifts to a higher volume in low contribution margin products, the break-even point will ________.

    1. remain unchanged because all products are included in the calculation of break-even
    2. increase because the low contribution margin products have little effect on break-even
    3. increase because the per composite unit contribution margin will decrease
    4. decrease because the per composite unit contribution margin will increase
    16

    LO 3.4Break-even for a multiple product firm ________.

    1. can be calculated by dividing total fixed costs by the contribution margin of a composite unit
    2. can be calculated by multiplying fixed costs by the contribution margin ratio of a composite unit
    3. can only be calculated when the proportion of products sold is the same for all products
    4. can be calculated by multiplying fixed costs by the contribution margin ratio of the most common product in the sales mix
    17

    LO 3.4Waskowski Company sells three products (A, B, and C) with a sales mix of 3:2:1. Unit sales price are shown. What is the sales price per composite unit?

    Product A $7, Product B $4, Product C $6.
    1. $17.00
    2. $25.00
    3. $35.00
    4. $20.00
    18

    LO 3.4Beaucheau Farms sells three products (E, F, and G) with a sale mix ratio of 3:1:2. Unit sales price are shown. What is the sales price per composite unit?

    Product E $11, Product F $8, Product G $9.
    1. $28.00
    2. $20.00
    3. $59.00
    4. $41.00
    19

    LO 3.4A company sells two products, Model 101 and Model 202. For every one unit of Model 101, they sell they sell two units of Model 202. Sales and cost information for the two products is shown. What is the contribution margin for a composite unit based on the sales mix?

    Sales Price, Variable Cost respectively: Model 101 $25, 11; Model 202 28, 7.
    1. $14
    2. $21
    3. $35
    4. $56
    20

    LO 3.5Wallace Industries has total contribution margin of $58,560 and net income of $24,400 for the month of April. Wallace expects sales volume to increase by 5% in May. What are the degree of operating leverage and the expected percent change in income for Wallace Industries?

    1. 0.42 and 2.2%
    2. 0.42 and 5%
    3. 2.4 and 12%
    4. 2.5 and 13%
    21

    LO 3.5Macom Manufacturing has total contribution margin of $61,250 and net income of $24,500 for the month of June. Marcus expects sales volume to increase by 10% in July. What are the degree of operating leverage and the expected percent change in income for Macom Manufacturing?

    1. 0.4 and 10%
    2. 2.5 and 10%
    3. 2.5 and 25%
    4. 5.0 and 50%
    22

    LO 3.5If a firm has a contribution margin of $59,690 and a net income of $12,700 for the current month, what is their degree of operating leverage?

    1. 0.18
    2. 1.18
    3. 2.4
    4. 4.7
    23

    LO 3.5If a firm has a contribution margin of $78,090 and a net income of $13,700 for the current month, what is their degree of operating leverage?

    1. 0.21
    2. 1.21
    3. 2.4
    4. 5.7

     

    Questions

     

    1

    LO 3.1Define and explain contribution margin on a per unit basis.

    2

    LO 3.1Define and explain contribution margin ratio.

    3

    LO 3.1Explain how a contribution margin income statement can be used to determine profitability.

    4

    LO 3.2In a cost-volume-profit analysis, explain what happens at the break-even point and why companies do not want to remain at the break-even point.

    5

    LO 3.2What is meant by a product’s contribution margin ratio and how is this ratio useful in planning business operations?

    6

    LO 3.3Explain how a manager can use CVP analysis to make decisions regarding changes in operations or pricing structure.

    7

    LO 3.3After conducting a CVP analysis, most businesses will then recreate a revised or projected income statement incorporating the results of the CVP analysis. What is the benefit of taking this extra step in the analysis?

    8

    LO 3.3Explain how it is possible for costs to change without changing the break-even point.

    9

    LO 3.4Explain what a sales mix is and how changes in the sales mix affect the break-even point.

    10

    LO 3.4Explain how break-even analysis for a multi-product company differs from a company selling a single product.

    11

    LO 3.5Explain margin of safety and why it is an important measurement for managers.

    12

    LO 3.5Define operating leverage and explain its importance to a company and how it relates to risk.

     

    Exercise Set A

     

    EA1

    LO 3.1Calculate the per-unit contribution margin of a product that has a sale price of $200 if the variable costs per unit are $65.

    EA2

    LO 3.1Calculate the per-unit contribution margin of a product that has a sale price of $400 if the variable costs per unit are $165.

    EA3

    LO 3.1A product has a sales price of $150 and a per-unit contribution margin of $50. What is the contribution margin ratio?

    EA4

    LO 3.1A product has a sales price of $250 and a per-unit contribution margin of $75. What is the contribution margin ratio?

    EA5

    LO 3.2Maple Enterprises sells a single product with a selling price of $75 and variable costs per unit of $30. The company’s monthly fixed expenses are $22,500.

    1. What is the company’s break-even point in units?
    2. What is the company’s break-even point in dollars?
    3. Construct a contribution margin income statement for the month of September when they will sell 900 units.
    4. How many units will Maple need to sell in order to reach a target profit of $45,000?
    5. What dollar sales will Maple need in order to reach a target profit of $45,000?
    6. Construct a contribution margin income statement for Maple that reflects $150,000 in sales volume.
    EA6

    LO 3.2Marlin Motors sells a single product with a selling price of $400 with variable costs per unit of $160. The company’s monthly fixed expenses are $36,000.

    1. What is the company’s break-even point in units?
    2. What is the company’s break-even point in dollars?
    3. Prepare a contribution margin income statement for the month of November when they will sell 130 units.
    4. How many units will Marlin need to sell in order to realize a target profit of $48,000?
    5. What dollar sales will Marlin need to generate in order to realize a target profit of $48,000?
    6. Construct a contribution margin income statement for the month of February that reflects $200,000 in sales revenue for Marlin Motors.
    EA7

    LO 3.3Flanders Manufacturing is considering purchasing a new machine that will reduce variable costs per part produced by $0.15. The machine will increase fixed costs by $18,250 per year. The information they will use to consider these changes is shown here.

    Current information: Units Sold 216,000, Sales Price per Unit $2.15, Variable Cost per Unit $1.75, Contribution Marin per Unit $0.40, Fixed Costs $56,000, Break-Even (in units) 140,000, Break-Even (in dollars) $301,000, Sales $464,400, Variable Costs $378,000, Contribution Margin $86,400, Fixed Costs $56,000, Net Income $30,400.
    EA8

    LO 3.3Marchete Company produces a single product. They have recently received the results of a market survey that indicates that they can increase the retail price of their product by 8% without losing customers or market share. All other costs will remain unchanged. Their most recent CVP analysis is shown. If they enact the 8% price increase, what will be their new break-even point in units and dollars?

    Current information: Units Sold 950, Sales Price per Unit $125, Variable Cost per Unit $98, Contribution Marin per Unit $27, Fixed Costs $23,000, Break-Even (in units) 852, Break-Even (in dollars) $106,481, Sales $118,750, Variable Costs $93,100, Contribution Margin $25,650, Fixed Costs $23,000, Net Income 2,650.
    EA9

    LO 3.3Brahma Industries sells vinyl replacement windows to home improvement retailers nationwide. The national sales manager believes that if they invest an additional $25,000 in advertising, they would increase sales volume by 10,000 units. Prepare a forecasted contribution margin income statement for Brahma if they incur the additional advertising costs, using this information:

    Sales (6,500 units at $115 per unit) $747,500 les Variable costs (6,500 units at $69 per unit) 448,500 equals Contribution Margin 299,000. Subtract Fixed Cost 19,500 equals Net Income $279,500.
    EA10

    LO 3.4Salvador Manufacturing builds and sells snowboards, skis and poles. The sales price and variable cost for each are shown:

    Product, Selling Price per Unit, Variable Cost per Unit (respectively): Snowboards, $320, 170; Skis 400, 225; Poles 50, 20.

    Their sales mix is reflected in the ratio 7:3:2. What is the overall unit contribution margin for Salvador with their current product mix?

    EA11

    LO 3.4Salvador Manufacturing builds and sells snowboards, skis and poles. The sales price and variable cost for each follows:

    Product, Selling Price per Unit, Variable Cost per Unit (respectively): Snowboards, $320, 170; Skis 400, 225; Poles 50, 20.

    Their sales mix is reflected in the ratio 7:3:2. If annual fixed costs shared by the three products are $196,200, how many units of each product will need to be sold in order for Salvador to break even?

    EA12

    LO 3.4Use the information from the previous exercises involving Salvador Manufacturing to determine their break-even point in sales dollars.

    EA13

    LO 3.5Company A has current sales of $10,000,000 and a 45% contribution margin. Its fixed costs are $3,000,000. Company B is a service firm with current service revenue of $5,000,000 and a 20% contribution margin. Company B’s fixed costs are $500,000. Compute the degree of operating leverage for both companies. Which company will benefit most from a 25% increase in sales? Explain why.

    EA14

    LO 3.5Marshall & Company produces a single product and recently calculated their break-even point as shown.

    Current information: Units Sold 400, Sales Price per Unit $525, Variable Cost per Unit 375, Contribution margin per Unit $150, Fixed Costs 3,500, Break-Even in units 23, Contribution Margin Ratio 0.29, Break-Even in Dollars $12,250.

    What would Marshall’s target margin of safety be in units and dollars if they required a $14,000 margin of safety?

     

    Exercise Set B

     

    EB1

    LO 3.1Calculate the per-unit contribution margin of a product that has a sale price of $150 if the variable costs per unit are $40.

    EB2

    LO 3.1Calculate the per-unit contribution margin of a product that has a sale price of $350 if the variable costs per unit are $95.

    EB3

    LO 3.1A product has a sales price of $175 and a per-unit contribution margin of $75. What is the contribution margin ratio?

    EB4

    LO 3.1A product has a sales price of $90 and a per-unit contribution margin of $30. What is the contribution margin ratio?

    EB5

    LO 3.2Cadre, Inc., sells a single product with a selling price of $120 and variable costs per unit of $90. The company’s monthly fixed expenses are $180,000.

    1. What is the company’s break-even point in units?
    2. What is the company’s break-even point in dollars?
    3. Prepare a contribution margin income statement for the month of October when they will sell 10,000 units.
    4. How many units will Cadre need to sell in order to realize a target profit of $300,000?
    5. What dollar sales will Cadre need to generate in order to realize a target profit of $300,000?
    6. Construct a contribution margin income statement for the month of August that reflects $2,400,000 in sales revenue for Cadre, Inc.
    EB6

    LO 3.2Kerr Manufacturing sells a single product with a selling price of $600 with variable costs per unit of $360. The company’s monthly fixed expenses are $72,000.

    1. What is the company’s break-even point in units?
    2. What is the company’s break-even point in dollars?
    3. Prepare a contribution margin income statement for the month of January when they will sell 500 units.
    4. How many units will Kerr need to sell in order to realize a target profit of $120,000?
    5. What dollar sales will Kerr need to generate in order to realize a target profit of $120,000?
    6. Construct a contribution margin income statement for the month of June that reflects $600,000 in sales revenue for Kerr Manufacturing.
    EB7

    LO 3.2Delta Co. sells a product for $150 per unit. The variable cost per unit is $90 and fixed costs are $15,250. Delta Co.’s tax rate is 36% and the company wants to earn $44,000 after taxes.

    1. What would be Delta’s desired pre-tax income?
    2. What would be break-even point in units to reach the income goal of $44,000 after taxes?
    3. What would be break-even point in sales dollars to reach the income goal of $44,000 after taxes?
    4. Create a contribution margin income statement to show that the break-even point calculated in B, generates the desired after-tax income.
    EB8

    LO 3.3Shonda & Shonda is a company that does land surveys and engineering consulting. They have an opportunity to purchase new computer equipment that will allow them to render their drawings and surveys much more quickly. The new equipment will cost them an additional $1,200 per month, but they will be able to increase their sales by 10% per year. Their current annual cost and break-even figures are as follows:

    Current information: Units Sold 1,400, Sales Price per Unit $225, Variable Cost per Unit $145, Fixed Costs $52,000, Break-Even (in units) 650, Contribution Margin per Unit $0.36, Break-Even (in dollars) $146,250, Sales $315,000, Variable Costs $203,000, Fixed Costs $52,000, Net Income $60,000.
    1. What will be the impact on the break-even point if Shonda & Shonda purchases the new computer?
    2. What will be the impact on net operating income if Shonda & Shonda purchases the new computer?
    3. What would be your recommendation to Shonda & Shonda regarding this purchase?
    EB9

    LO 3.3Baghdad Company produces a single product. They have recently received the result of a market survey that indicates that they can increase the retail price of their product by 10% without losing customers or market share. All other costs will remain unchanged. If they enact the 10% price increase, what will be their new break-even point in units and dollars? Their most recent CVP analysis is:

    Current information: Units Sold 1,450, Sales Price per Unit $90, Variable Cost per Unit $40, Contribution Marin per Unit $50, Fixed Costs $20,650, Break-Even (in units) 413, Break-Even (in dollars) $37,170, Sales $130,500, Variable Costs $58,000, Contribution Margin $72,500, Fixed Costs $20,650, Net Income $51,850.
    EB10

    LO 3.3Keleher Industries manufactures pet doors and sells them directly to the consumer via their web site. The marketing manager believes that if the company invests in new software, they will increase their sales by 10%. The new software will increase fixed costs by $400 per month. Prepare a forecasted contribution margin income statement for Keleher Industries reflecting the new software cost and associated increase in sales. The previous annual statement is as follows:

    Sales (3,100 units at $250 per unit) $775,000 less Variable costs (3,100 units at $115 per unit) 356,500 equals Contribution Margin 418,500. Subtract Fixed Cost 19,500 equals Net Income $399,000.
    EB11

    LO 3.4JJ Manufacturing builds and sells switch harnesses for glove boxes. The sales price and variable cost for each follows:

    Product, Selling Price per Unit, Variable Cost per Unit (respectively): Trunk Switch, $60, $28; Gas Door Switch $75, $33; Glove Box Light $40, $22.

    Their sales mix is reflected in the ratio 4:4:1. What is the overall unit contribution margin for JJ Manufacturing with their current product mix?

    EB12

    LO 3.4JJ Manufacturing builds and sells switch harnesses for glove boxes. The sales price and variable cost for each follow:

    Product, Selling Price per Unit, Variable Cost per Unit (respectively): Trunk Switch, $60, $28; Gas Door Switch, $75, $33; Glove Box Light, $40, $22.

    Their sales mix is reflected in the ratio 4:4:1. If annual fixed costs shared by the three products are $18,840 how many units of each product will need to be sold in order for JJ to break even?

    EB13

    LO 3.4Use the information from the previous exercises involving JJ Manufacturing to determine their break-even point in sales dollars.

    EB14

    LO 3.5Company A has current sales of $4,000,000 and a 45% contribution margin. Its fixed costs are $600,000. Company B is a service firm with current service revenue of $2,800,000 and a 15% contribution margin. Company B’s fixed costs are $375,000. Compute the degree of operating leverage for both companies. Which company will benefit most from a 15% increase in sales? Explain why.

    EB15

    LO 3.5Best Wholesale recently calculated their break-even point for their Midwest operations. The national sales manager has asked them to include a $10,500 margin of safety in their calculations. Using the following information, recalculate Best Wholesale’s break-even point in units and dollars with the $10,500 margin of safety included.

    Current information: Units Sold 1,200, Sales Price per Unit $765, Variable Cost per Unit 590, Contribution margin per Unit $175, Fixed Costs 97,000, Break-Even in units 554, Contribution Margin Ratio 0.23 Break-Even in Dollars $424,028.57.

     

    Problem Set A

     

    PA1

    LO 3.1A company sells small motors as a component part to automobiles. The Model 101 motor sells for $850 and has per-unit variable costs of $400 associated with its production. The company has fixed expenses of $90,000 per month. In August, the company sold 425 of the Model 101 motors.

    1. Calculate the contribution margin per unit for the Model 101.
    2. Calculate the contribution margin ratio of the Model 101.
    3. Prepare a contribution margin income statement for the month of August.
    PA2

    LO 3.1A company manufactures and sells racing bicycles to specialty retailers. The Bomber model sells for $450 and has per-unit variable costs of $200 associated with its production. The company has fixed expenses of $40,000 per month. In May, the company sold 225 of the Bomber model bikes.

    1. Calculate the contribution margin per unit for the Bomber.
    2. Calculate the contribution margin ratio of the Bomber.
    3. Prepare a contribution margin income statement for the month of May.
    PA3

    LO 3.2Fill in the missing amounts for the four companies. Each case is independent of the others. Assume that only one product is being sold by each company.

    Company A, Company B, Company C, Company D (respectively): Units Sold 600, ?, ?, 900; Sales in Dollars $30,000, 70,000, 240,000, ?; Total Variable Expenses $7,200, ?, ?, $144,000; Per Unit C/M ?, $80, $270, $140; Total Fixed Expenses $20,000, 50,000, 145,000, ?; Net Operating Income (loss) ?, $6,000, $(10,000), $(24,000).
    PA4

    LO 3.2Markham Farms reports the following contribution margin income statement for the month of August. The company has the opportunity to purchase new machinery that will reduce its variable cost per unit by $2 but will increase fixed costs by 15%. Prepare a projected contribution margin income statement for Markham Farms assuming it purchases the new equipment. Assume sales level remains unchanged.

    Markham Farms, Contribution Margin Income Statement: Sales (1,500 units at $75 per unit) $112,500 less Variable Costs (1,500 units at $15 per unit) 22,500 equals Contribution Margin 90,000. Subtract Fixed Costs 40,000 equals Net Income $50,000.
    PA5

    LO 3.3Kylie’s Cookies is considering the purchase of a larger oven that will cost $2,200 and will increase her fixed costs by $59. What would happen if she purchased the new oven to realize the variable cost savings of $0.10 per cookie, and what would happen if she raised her price by just $0.20? She feels confident that such a small price increase will decrease the sales by only 25 units and may help her offset the increase in fixed costs. Given the following current prices how would the break-even in units and dollars change if she doesn’t increase the selling price and if she does increase the selling price? Complete the monthly contribution margin income statement for each of these cases.

    Selling Price, Variable Cost, and Fixed Cost Change Analysis with Current Price, with Decreased VC and Increased FC, and with Increased SP, Decreased VC, and Increased FC (respectively): Sales price per unit $1.75, -, -; Variable cost per unit 0.40, -, -; Contribution margin per unit $1.35, -, -; Fixed costs $405, -, -; Break-even in units 300, -, -; Break-even in dollars $525.00, -, -. Monthly Contribution Margin Income Statement with Current Price, with Decreased VC and Increased FC, and with Increased SP, Decreased VC, and Increased FC (respectively): Unit sales, expected 800, -, -; Sales -, -, -; Variable costs -, -, -; Contribution Margin -, -, -; Fixed costs -, -, -; Net income -, -, -.
    PA6

    LO 3.4Morris Industries manufactures and sells three products (AA, BB, and CC). The sales price and unit variable cost for the three products are as follows:

    Product, Sales Price per Unit, Variable Cost per Unit (respectively): AA $50, $30; BB 40, 15; CC 30, 10.

    Their sales mix is reflected as a ratio of 5:3:2. Annual fixed costs shared by the three products are $258,000 per year.

    1. What are total variable costs for Morris with their current product mix?
    2. Calculate the number of units of each product that will need to be sold in order for Morris to break even.
    3. What is their break-even point in sales dollars?
    4. Using an income statement format, prove that this is the break-even point.
    PA7

    LO 3.4Manatoah Manufacturing produces 3 models of window air conditioners: model 101, model 201, and model 301. The sales price and variable costs for these three models are as follows:

    Product, Sales Price per Unit, Variable Cost per Unit (respectively): Model 101 $275, $185; Model 201 350, 215; Model 301 400, 245.

    The current product mix is 4:3:2. The three models share total fixed costs of $430,000.

    1. Calculate the sales price per composite unit.
    2. What is the contribution margin per composite unit?
    3. Calculate Manatoah’s break-even point in both dollars and units.
    4. Using an income statement format, prove that this is the break-even point.
    PA8

    LO 3.5Jakarta Company is a service firm with current service revenue of $400,000 and a 40% contribution margin. Its fixed costs are $80,000. Maldives Company has current sales of $6,610,000 and a 45% contribution margin. Its fixed costs are $1,800,000.

    1. What is the margin of safety for Jakarta and Maldives?
    2. Compare the margin of safety in dollars between the two companies. Which is stronger?
    3. Compare the margin of safety in percentage between the two companies. Now, which one is stronger?
    4. Compute the degree of operating leverage for both companies. Which company will benefit most from a 15% increase in sales? Explain why. Illustrate your findings in an Income Statement that is increased by 15%.

     

    Problem Set B

     

    PB1

    LO 3.1A company sells mulch by the cubic yard. Grade A much sells for $150 per cubic yard and has variable costs of $65 per cubic yard. The company has fixed expenses of $15,000 per month. In August, the company sold 240 cubic yards of Grade A mulch.

    1. Calculate the contribution margin per unit for Grade A mulch.
    2. Calculate the contribution margin ratio of the Grade A mulch.
    3. Prepare a contribution margin income statement for the month of August.
    PB2

    LO 3.1A company manufactures and sells blades that are used in riding lawnmowers. The 18-inch blade sells for $15 and has per-unit variable costs of $4 associated with its production. The company has fixed expenses of $85,000 per month. In January, the company sold 12,000 of the 18-inch blades.

    1. Calculate the contribution margin per unit for the 18-inch blade.
    2. Calculate the contribution margin ratio of the 18-inch blade.
    3. Prepare a contribution margin income statement for the month of January.
    PB3

    LO 3.2Fill in the missing amounts for the four companies. Each case is independent of the others. Assume that only one product is being sold by each company.

    Company A, Company B, Company C, Company D (respectively): Units Sold 700, ?, ?, 600; Sales in Dollars $35,000, $40,000, $35,000, ?; Total Variable Expenses $14,000, ?, ?, $18,000; Per Unit C/M ?, $90, $100, $60; Total Fixed Expenses $10,000, $9,000, $12,000, ?; Net Operating Income (loss) ?, $27,000, $8,000, $16,000.
    PB4

    LO 3.2West Island distributes a single product. The company’s sales and expenses for the month of June are shown.

    Sales Price per Unit $150, Variable Costs per Unit 80, Fixed Expenses 42,000.

    Using the information presented, answer these questions:

    1. What is the break-even point in units sold and dollar sales?
    2. What is the total contribution margin at the break-even point?
    3. If West Island wants to earn a profit of $21,000, how many units would they have to sell?
    4. Prepare a contribution margin income statement that reflects sales necessary to achieve the target profit.
    PB5

    LO 3.2Wellington, Inc., reports the following contribution margin income statement for the month of May. The company has the opportunity to purchase new machinery that will reduce its variable cost per unit by $10 but will increase fixed costs by 20%. Prepare a projected contribution margin income statement for Wellington, Inc., assuming it purchases the new equipment. Assume sales level remains unchanged.

    Wellington, Inc., Contribution Margin Income Statement. Sales (800 units at $225 per unit) $180,000 les Variable costs (800 units at $120 per unit) 96,000 equals Contribution Margin 84,000. Subtract Fixed Cost 35,000 equals Net Income $49,000.
    PB6

    LO 3.3Karen’s Quilts is considering the purchase of a new Long-arm Quilt Machine that will cost $17,500 and will increase her fixed costs by $119. What would happen if she purchased the new quilt machine to realize the variable cost savings of $5.00 per quilt, and what would happen if she raised her price by just $5.00? She feels confident that such a small price increase will not decrease the sales in units that will help her offset the increase in fixed costs. Given the following current prices how would the break-even in units and dollars change? Complete the monthly contribution margin income statement for each of these cases.

    Selling Price, Variable Cost, and Fixed Cost Change Analysis, Current Price: Sales Price per Unit $65.00; Variable Cost per Unit 15.50; Contribution Margin per Unit $49.50; Fixed Costs $99.00; Break-even in Units 2; Break-even in Dollars $130.00. The previous with Decreased VC and Increased FC are blank. The previous with Increased SP, Decreased VC, and Increased FC are blank. Monthly Contribution Margin Income Statement: Unit Sales, Expected 10; Sales; Variable Costs; Contribution Margin; Fixed Costs; Net Income. The previous with Decreased VC and Increased FC are blank. The previous with Increased SP, Decreased VC, and Increased FC are blank.
    PB7

    LO 3.4Abilene Industries manufactures and sells three products (XX, YY, and ZZ). The sales price and unit variable cost for the three products are as follows:

    Product, Sales Price per Unit, Variable Cost per Unit (respectively): XX $75, $45; YY 60, 25; ZZ 55, 15.

    Their sales mix is reflected as a ratio of 4:2:1. Annual fixed costs shared by the three products are $345,000 per year.

    1. What are total variable costs for Abilene with their current product mix?
    2. Calculate the number of units of each product that will need to be sold in order for Abilene to break even.
    3. What is their break-even point in sales dollars?
    4. Using an income statement format, prove that this is the break-even point.
    PB8

    LO 3.4Tim-Buck-II rents jet skis at a beach resort. There are three models available to rent: Junior, Adult, and Expert. The rental price and variable costs for these three models are as follows:

    Product, Sales Price per Unit, Variable Cost per Unit (respectively): Junior $50, $15; Adult 75, 25; Expert 110, 60.

    The current product mix is 5:4:1. The three models share total fixed costs of $114,750

    1. Calculate the sales price per composite unit.
    2. What is the contribution margin per composite unit?
    3. Calculate Tim-Buck-II’s break-even point in both dollars and units.
    4. Using an income statement format, prove that this is the break-even point.
    PB9

    LO 3.5Fire Company is a service firm with current service revenue of $900,000 and a 40% contribution margin. Its fixed costs are $200,000. Ice Company has current sales of $420,000 and a 30% contribution margin. Its fixed costs are $90,000.

    1. What is the margin of safety for Fire and Ice?
    2. Compare the margin of safety in dollars between the two companies. Which is stronger?
    3. Compare the margin of safety in percentage between the two companies. Now which one is stronger?
    4. Compute the degree of operating leverage for both companies. Which company will benefit most from a 10% increase in sales? Explain why. Illustrate your findings in an Income Statement that is increased by 10%.

     

    Thought Provokers

     

    TP1

    LO 3.1Mariana Manufacturing and Bellow Brothers compete in the same industry and in all respects their products are virtually identical. However, most of Mariana’s costs are fixed while Bellow’s costs are primarily variable. If sales increase for both companies, which will realize the greatest increase in profits? Why?

    TP2

    LO 3.2Roald is the sales manager for a small regional manufacturing firm you own. You have asked him to put together a plan for expanding into nearby markets. You know that Roald’s previous job had him working closely with many of your competitors in this new market, and you believe he will be able to facilitate the company expansion. He is to prepare a presentation to you and your partners outlining his strategy for taking the company into this expanded market. The day before the presentation, Roald comes to you and explains that he will not be making a presentation on market expansion but instead wants to discuss several ways he believes the company can reduce both fixed and variable costs. Why would Roald want to focus on reducing costs rather than on expanding into a new market?

    TP3

    LO 3.3As a manager, you have to choose between two options for new production equipment. Machine A will increase fixed costs by a substantial margin but will produce greater sales volume at the current price. Machine B will only slightly increase fixed costs but will produce considerable savings on variable cost per unit. No additional sales are anticipated if Machine B is selected. What are the relative merits of both machines, and how could you go about analyzing which machine is the better investment for the company in terms of both net operating income and break-even?

    TP4

    LO 3.5Couture’s Creations is considering offering Joe, an hourly employee, the opportunity to become a salaried employee. Why is this a good idea for Couture’s Creations? Is this a good idea for Joe? What if Couture’s Creations entices Joe to agree to the change by offering him a salaried position with no risk of layoff during the winter lull? What if Joe agrees and Couture’s Creations lays him off anyway six months into the agreement?