PROBLEM 1: Basic CVP Analysis
Marjolein & Co, make a designer alarm clock that sells for $20 per unit. Variable costs are $6 per unit, and fixed costs total $210,000 per year.
Required:
Answer the following independent questions:
Q1. What is the product’s CM ratio?
Q2. Use the CM ratio to determine the break-even point in sales dollars.
Q3. De to an increase in demand, the company estimates that sales will increase by $200,000 during the next year. By how much should net operating income (or net operating loss) change, assuming that fixed costs do not change?
Q4. Assume that the operating results for last year were:
Sales…………………………… $320,000
Less…………………………….. 96,000
Contribution margin……………. 224,000
Less fixed expenses ……………. 210,000
Net operating income ………….. $14,000
a. Compute the degree of operating leverage at the current level sales.
b. The president expects sales to increase by 5% next year. By what percentage should net operating income increase?
Q5. Refer to the original data. Assume that the company sold 20,000 units last year. The sales manager is convinced that an 8% reduction in the selling price, combined with a $24,000 increase in advertising, would cause annual sales in units to increase by one-fourth. Prepare two contributions income statements, one showing the results of last year’s operations and one showing the results of operations if these changes are made. Would you recommend that the company do as the sales manager suggests?
Q6. Refer to the original data. Assuming again that the company sold 20,000 units last year. The president does not want to change the selling price. Instead, he wants to increase the sales commission by $1.50 per unit. He thinks that this move, combined with some increase in advertising, would increase annual sales by 20%. By how much could advertising be increased with profits remaining unchanged? Do not prepare an income statement: use the incremental analysis approach.
PROBLEM 2: Break-even and Target Profit Analysis
Mugs and More sells a large variety of coffee mugs. Larry Hooper, the owner, is thinking of expanding his sales by hiring local high school students, on a commission basis, to sell coffee mugs bearing the name and mascot of the local high school.
These coffee mugs would have to be ordered form the manufacturer six weeks in advance, and they could not be returned because of the unique printing required. The coiffee mugs would cost Mr. Hooper $3 each with a minimum order of 50 coffee mugs. Any additional coffee mugs would have to be ordered in increments of 50.
Since Mr. Hooper’s plan would not require any additional facilities, the only costs associated with eh project would be the costs of the coffee mugs and the costs of the sales commissions. The selling price of the coffee mugs would be $6 each. Mr. Hooper would pay the students a commission of $1 for each mug sold.
Required:
1. To make the project worthwhile, Mr. Hooper would require a $700 profit for the first three months of the venture. What of sales in units and in dollars would be required to reach this target net operating income? Show all computations.
2. Assume that the venture is undertaken and an order is placed for 50 coffee mugs. What would be Mr. Hooper’s break-even point in units and in sales dollars? Show computations and explain the reasoning behind your answer.
PROBLEM 3: Sales Mix: Break Even Analysis; Margin of safety
Jean Leeman & Co. of Texas makes two products, Mini and Giga. President revenue, cost, and sales data on the two products follow:
Mini Giga
Selling price per unit………… 5.00 $60.00
Variable expenses per unit… $2.00 $36.00
Number of units sold annually. 108,000 9,000
Fixed expenses total $378,000 per year.
Required:
1. Assuming the sales mix given above, do the following:
a. Prepare a contribution income statement showing both dollar and percent for each product and for the company as a whole.
b. Compute the break-even point in dollars for the company as a whole and the margin of safety in both dollars and percent.
2. The company has just developed a new product, Mega. Assume that the company could sell 36,000 units at $50 each. The variable expenses would be $35 each. The Company’s fixed expenses would not change.
a. Prepare another contribution income statement, including sales of Mega (sales of the other two products would not change). Carry percentage computations to one decimal place.
b. Compute the company’s new break-even point in dollars and the new margin of safety in both dollars and percent.
3. the president of the company examines your figures and says, “There’s something strange here. Our fixed costs haven’t changed and you show greater total contribution margin if we add the new product, but you also show our break-even point going up. With greater contribution margin, the break-even point should go down, not up. You’ve made a mistake somewhere.” Explain to the president what has happened.