Cost-Volume-Profit Analysis: A Managerial Planning Tool: Discussion Questions

CHAPTER 4
COST-VOLUME-PROFIT ANALYSIS:
A MANAGERIAL PLANNING TOOL
DISCUSSION QUESTIONS
1. CVP analysis allows managers to focus on
selling prices, volume, costs, profits, and
sales mix. Many different what-if questions
can be asked to assess the effect of
changes in key variables on profits.
8. Packages of products, based on the

expected sales mix, are defined as a single
product. Selling price and cost information
for this package can then be used to carry
out CVP analysis.
2. The units sold approach defines sales

volume in terms of units of product and
gives answers in these same terms. The unit
contribution margin is needed to solve for
the break-even units. The sales revenue
approach defines sales volume in terms of
revenues and provides answers in these
same terms. The overall contribution margin
ratio can be used to solve for the break-even
sales dollars.
9. This statement is wrong; break-even

analysis can be easily adjusted to focus on
targeted profit.
10.
The basic break-even equation is adjusted

for targeted profit by adding the desired
targeted profit to the total fixed costs in the
numerator. The denominator remains the
contribution margin per unit.
11.
A change in sales mix will change the

contribution margin of the package (defined
by the sales mix), and thus will change the
units needed to break even.
12.
Margin of safety is the sales activity in excess

of that needed to break even. The higher the
margin of safety, the lower the risk.
3. Break-even point is the level of sales activity

where total revenues equal total costs, or
where zero profits are earned.
4. At the break-even point, all fixed costs are
covered. Above the break-even point, only
variable costs need to be covered. Thus,
contribution margin per unit is profit per unit,
provided that the unit selling price is greater
than the unit variable cost (which it must be
for break even to be achieved).
13. Operating leverage is the use of fixed costs

to extract higher percentage changes in
profits as sales activity changes. It is
achieved by increasing fixed costs while
lowering variable costs. Therefore, increased
leverage implies increased risk, and vice
versa.
5. Variable cost ratio = Variable costs/Sales

Contribution margin ratio
= Contribution margin/Sales
14. Sensitivity analysis is a what-if technique

that examines the impact of changes in
underlying assumptions on an answer. A
company can input data on selling prices,
variable costs, fixed costs, and sales mix
and set up formulas to calculate break-even
points and expected profits. Then, the data
can be varied as desired to see what impact
changes have on the expected profit.

= 1 Variable cost ratio
6. No. The increase in contribution is $9,000
(0.3 $30,000), and the increase in
advertising is $10,000. If the contribution
margin ratio is 0.40, then the increased
contribution margin is $12,000 (0.4
$30,000). This is $2,000 above the increased
advertising expense, so the increased
advertising would be a good decision.
15. A declining margin of safety means that

sales are moving closer to the breakeven point. Profit is going down, and the
possibility of loss is greater. Managers
should analyze the reasons for the
decreasing margin of safety and look for
7. Sales mix is the relative proportion sold of

each product. For example, a sales mix of
3:2 means that three units of one product
are sold for every two of the second product.
4-1
4-1
ways to increase
decrease costs.
revenue
and/or
4-2
MULTIPLE-CHOICE EXERCISES
41
42
43
44
45
46
47
48
49
Break-even units =
410
Variable cost ratio =
$9,000
= 3,000
$15 - $12
$12
= 0.80, or 80%
$15
Contribution margin ratio =

411
412
Units to be sold =
$15 - $12
= 0.20, or 20%
$15
($15,000 + $3,600)
= 6,200
($8 - $5)
4-1
4-1
CORNERSTONE EXERCISES
Cornerstone Exercise 413
1. Variable cost per unit = Direct materials + Direct labor
+ Variable factory overhead + Variable selling expense
= $30 + $5 + $12 + $2
= $49
2. Total fixed expense = $14,000 + $15,400 = $29,400
3.
Head-First Company
Contribution Margin Income Statement
For the Coming Year
Sales ($70 5,000 helmets)..................................
Total variable expense ($49 5,000)....................
Total contribution margin.....................................
Total fixed expense................................................
Operating income .................................................
Total
Per Unit
$350,000
245,000
$105,000
29,400
$ 75,600
$70
49
$21

1. Break-even units =
Total fixed cost

(Price - Unit variable cost)
$29,400
($70 - $49)
= 1,400 helmets
2.
Head-First Company
At Break-Even
Sales ($70 1,400 helmets)........................................................
Total variable expense ($49 1,400).........................................
Total contribution margin...........................................................
Total fixed expense.....................................................................
Operating income........................................................................
4-2
4-2
Total
$98,000
68,600
$29,400
29,400
$
0

1. Variable cost ratio =
=
Variable cost per unit

Price
$49
$70
= 0.70, or 70%
(Price - Variable cost per unit)
Price
2. Contribution margin ratio =

=
Contribution margin per unit

Price
($70 - $49)
$70
= 0.30, or 30%
3.
Head-First Company
For the Coming Year
Percent
of Sales
Sales ($70 5,000 helmets)..................................
Total variable expense ($49 5,000)....................
Total contribution margin.....................................
Total fixed expense................................................
Operating income .................................................

Total fixed cost
1. Break-even sales dollars = Contributi on margin ratio

=
$29,400
0.30
= $98,000
4-3
4-3
$350,000
245,000
$105,000
29,400
$ 75,600
100%
70
30

2.
(Concluded)
Head-First Company
At Break-Even
Sales..............................................................................................
Total variable expense ($98,000 0.70)....................................
Total
$98,000
68,600
$29,400
29,400
$
0

1.
Break-even units =
(Total fixed cost + Target income)

(Price - Unit variable cost
($29,400 + $81,900)
($70 - $49)
= 5,300 helmets
2.
Head-First Company
At 5,300 Helmets Sold
Sales ($70 5,300 helmets)........................................................
Total variable expense ($49 5,300).........................................

1. Sales for target income =
(Total fixed cost + Target income)

($29,400 + $81,900)
0.30
= $371,000
4-4
4-4
Total
$371,000
259,700
$111,300
29,400
$ 81,900

2.
(Concluded)
Head-First Company
At 5,300 Helmets Sold
Sales..............................................................................................
Total variable expense ($371,000 0.70)..................................
Total
$371,000
259,700
$111,300
29,400
$ 81,900

1. Any package with 5 bicycle helmets for every 1 motorcycle helmet is fine. For
example, 5:1, or 10:2, or 30:6. Throughout the rest of this exercise, we will use
5:1.
Product
Bicycle helmet
Motorcycle helmet
Package total
2. Break-even packages
Price
$ 70
220
Unit
Variable
Cost
Unit
Contribution
Margin
Sales
Mix
$21
77
5
1
$ 49
143
Package Unit
Contribution
Margin
$105
77
$182
Fixed cost
= Package contributi on margin

=
$54,600
$182
= 300 packages
Break-even bicycle helmets = Number of packages Sales mix amount
= 300 5
= 1,500
Break-even motorcycle helmets = Number of packages Sales mix amount
= 300 1
= 300
4-5
4-5

3.
(Concluded)
Head-First Company
At Break-Even
Sales [($70 1,500) + ($220 300)]............................................
Total variable expense [($49 1,500) + ($143 300)]..............
Total
$171,000
116,400
$ 54,600
54,600
$
0

($570,000 - $388,000)
$570,000
= 0.3193
Break-even sales dollars
Total fixed cost
= Contributi on margin ratio

=
$54,600
0.3193
= $170,999
2.
Head-First Company
At Break-Even Sales Dollars
Sales..............................................................................................
Total variable expense ($170,999 0.6807)..............................
4-6
4-6
Total
$170,999
116,399
$ 54,600
54,600
$
0

1. Margin of safety in units = Budgeted units Break-even units
= 5,000 1,400
= 3,600
2. Margin of safety in sales revenue = Budgeted sales Break-even sales
= $350,000 $98,000
= $252,000

Degree of operating leverage =
Total contributi on margin

Operating income
$105,000
= $75,600
= 1.4

1. Percent change in operating income = DOL % Change in sales
= 1.4 15%
= 21%
2. Expected operating income = Original income + (% Change Original income)
= $75,600 + (0.21 $75,600)
= $91,476
4-7
4-7
EXERCISES
Exercise 424
1. Direct materials............................................................................
Direct labor...................................................................................
Variable overhead........................................................................
Variable selling and administrative expense............................
Unit variable cost.........................................................................
$3.90
1.40
2.10
1.60
$9.00
Unit contribution margin = Price Unit variable cost

= $16 $9
= $7
Variable cost ratio =
$7
= 0.4375, or 43.75%
$16
$9
= 0.5625, or 56.25%
$16
($52,000 + $37,950)
= 12,850
($16 - $9)
4. Sales ($16 12,850).....................................................................

Variable cost ($9 12,850)..........................................................
Total contribution margin......................................................
Less: Fixed expenses ($52,000 + $37,950)................................
Operating income...................................................................
Exercise 425
1. Unit variable cost = $7.60 0.60 = $4.56
Unit contribution margin = $7.60 $4.56 = $3.04
$349,600
$3.04
= 115,000
4-8
4-8
$205,600
115,650
$ 89,950
89,950
$
0
Exercise 425
(Concluded)
3. Break-even sales revenue = $7.60 115,000 = $874,000

OR
Break-even sales revenue =
$349,600
= $874,000
0.40
4. Sales..............................................................................................
Less: Variable costs....................................................................
Contribution margin....................................................................
Less: Fixed costs.........................................................................
$874,000
524,400
$349,600
349,600
$
0
Exercise 426
Contribution margin
Sales
$18,000
= $90,000 = 0.20, or 20%
2. Variable cost ratio =
$72,000
= 0.80, or 80%
$90,000
OR
Variable cost ratio = 1 Contribution margin ratio = 1.00 0.20 = 0.80
Fixed cost
3. Break-even revenue = Contributi on margin ratio

=
$6,900
= $34,500
0.20
4-9
4-9
Exercise 427
1. Sales ($14 27,000).....................................................................
Variable cost ($9.50 27,000).....................................................
Less: Fixed expenses..................................................................
$378,000
256,500
$121,500
126,000
$ (4,500)
$126,000
= 28,000
($14 - $9.50)
3. Units to earn target income =
($126,000 + $9,900)
= 30,200
($14 - $9.50)
Exercise 428
=
($131,650 + $18,350)
($2.45 - $1.65)
$150,000
$0.80
= 187,500
2. Unit variable cost includes all variable costs on a unit basis:
Direct materials......................................................................
Direct labor.............................................................................
Variable overhead..................................................................
Variable selling.......................................................................
Unit variable cost...................................................................
$0.27
0.58
0.63
0.17
$1.65
Unit variable manufacturing cost includes the variable costs of production on

a unit basis:
Direct materials......................................................................
Direct labor.............................................................................
Variable overhead..................................................................
Unit variable manufacturing cost.........................................
$0.27
0.58
0.63
$1.48
Unit variable cost is used in CVP because it includes all variable costs, not
just manufacturing costs.
4-10
4-10
Exercise 428
(Concluded)
3. Units to earn $12,600 =
($131,650 + $18,350 + $12,600)

($2.45 - $1.65)
= 203,250
4. Sales revenue to earn $12,600 = 203,250 $2.45 = $497,962.50
Exercise 429
($231,650 + $315,390)
= 208,000
($6.28 - $3.65)
2. Expected sales in units...............................................................

Break-even units..........................................................................
Margin of safety (in units)...........................................................
380,000
(208,000)
172,000
3. Expected sales revenue ($6.28 380,000)................................ $2,386,400

Break-even sales revenue*.........................................................
1,306,240
Margin of safety (in dollars)........................................................ $1,080,160
*Break-even revenue = Price Break-even units = $6.28 208,000 units
Exercise 430
Sales
Total variable costs
Total contribution margin
Total fixed costs
Operating income (loss)
A
$15,000
5,000
$10,000
9,500*
$ 500
Units sold
Price per unit
Variable cost per unit
Contribution margin per unit
Break even in units
3,000*
$5.00
$1.67*
$3.33*
67%*
2,853*
B
$15,600*
11,700
$ 3,900
4,000
$ (100)*
1,300
$12*
$9
$3
25%*
1,333*
C
$16,250*
9,750
$ 6,500*
6,136*
$ 364
D
$10,600
5,300*
$ 5,300*
4,452
$ 848
125
$130
$78*
$52*
40%
118*
1,000
$10.60*
$5.30*
$5.30*
50%*
840*
*Designates calculated amount.

(Note: Calculated break-even units that include a fractional amount have been
rounded to the nearest whole unit.)
4-11
4-11
Exercise 431
$141,750
1. Variable cost ratio = $315,000 = 0.45, or 45%

$173,250
Contribution margin ratio = $315,000 = 0.55, or 55%

2. Because all fixed costs are covered by break even, any revenue above break
even contributes directly to operating income.
Sales Contribution margin ratio = Increased operating income
$30,000 0.55 = $16,500
Therefore, operating income will be $16,500 higher.
3. Break-even sales revenue =
$63,000
= $114,545 (rounded to the nearest
0.55
dollar)
Sales..............................................................................................
Less: Variable cost ($114,545 0.45)........................................
Contribution margin...............................................................
Less: Fixed cost...........................................................................
$114,545
51,545
$ 63,000
63,000
$
0
4. Expected sales.............................................................................
Break-even sales.........................................................................
Margin of safety......................................................................
$315,000
114,545
$200,455
5. Sales revenue...............................................................................
Break-even sales.........................................................................
Margin of safety......................................................................
$280,000
114,545
$165,455
4-12
4-12
Exercise 432
1. Sales mix is 2:1 (twice as many DVDs are sold as equipment sets).
2.
Product
Price
DVDs
Equipment sets
Total
$12
15
Break-even packages =
Variable
Cost
=
CM
$4
6
$8
9
Sales
Mix
2
1
Total
CM
$16
9
$25
$70,000
= 2,800
$25
Break-even DVDs = 2 2,800 = 5,600

Break-even equipment sets = 1 2,800 = 2,800
Exercise 433
1. Sales mix is 2:1:4 (twice as many DVDs will be sold as equipment sets, and
four times as many yoga mats will be sold as equipment sets).
2.
Product
Price
DVDs
Equipment sets
Yoga mats
Total
$12
15
18
Variable
Cost
=
CM
$4
6
13
$118,350
$45
$8
9
5
= 2,630
Break-even DVDs = 2 2,630 = 5,260

Break-even equipment sets = 1 2,630 = 2,630
Break-even yoga mats = 4 2,630 = 10,520
4-13
4-13
Sales
Mix
2
1
4
Total
CM
$16
9
20
$45
Exercise 433
(Concluded)
3.
Switzer Company
Income Statement
For the Coming Year
Sales..............................................................................................
Less: Total variable costs...........................................................
Less: Total fixed costs................................................................
$555,000
330,000
$225,000
118,350
$106,650
$225,000
Contribution margin ratio = $555,000 = 0.405, or 40.5%

Break-even revenue =
$118,350
= $292,222
0.405
4. Margin of safety = $555,000 $292,222 = $262,778
Exercise 434
1. Sales mix is 3:5:1 (three times as many small basics will be sold as carved
models, and five times as many large basics will be sold as carved models).
2.
Product
Price
Small basic
Large basic
Carved model
Total
$120
200
350
Variable
Cost
=
$ 70
150
275
CM
$50
50
75
$446,500
= 940
$475
Break-even small basic models = 3 940 = 2,820

Break-even large basic models = 5 940 = 4,700
Break-even carved models = 1 940 = 940
4-14
4-14
Sales
Mix
3
5
1
Total
CM
$150
250
75
$475
Exercise 434
(Concluded)
3.
Sonora Company
Income Statement
For the Coming Year
Sales..............................................................................................
Less: Total variable costs...........................................................
Less: Total fixed costs................................................................
$17,100,000
12,350,000
$ 4,750,000
446,500
$ 4,303,500
$4,750,000
Contribution margin ratio = $17,100,00 0 = 0.2778, or 27.78%

Break-even revenue =
$446,500
= $1,607,271
0.2778
4. Margin of safety = $17,100,000 $1,607,271 = $15,492,729
Exercise 435
$35,000
$30,000
$ Profit
$25,000
$20,000
$15,000
$10,000 X
$5,000
$0
0
500
1,000
1,500
2,000
2,500
3,000
3,500
Units Sold
Break-even point = 2,500 units; + line is total revenue, and x line is total
cost.
4-15
4-15
Exercise 435
a. Fixed costs increase by $5,000:

$40,000
X
$35,000
$30,000
$25,000
$ Profit
2.
(Continued)
$20,000
$15,000X
$10,000
$5,000
$0
0
500
1,000
1,500
2,000
2,500
Units Sold
Break-even point = 3,750 units
4-16
4-16
3,000
3,500
4,000
Exercise 435
b. Unit variable cost increases to $7:
$50,000
$40,000
$ Profit
2.
(Continued)
$30,000
$20,000
$10,000
$0
0
500
1,000
1,500
2,000
Units Sold
4-17
4-17
2,500
3,000
3,500
4,000
Exercise 435
c. Selling price increases to $12:

$60,000
$50,000
$40,000
$ Profit
2.
(Continued)
$30,000
$20,000
$10,000
$0
0
500
1,000
1,500
2,000
Units Sold
4-18
4-18
2,500
3,000
3,500
4,000
Exercise 435
2.
(Concluded)
d. Both fixed costs and unit variable cost increase:

$70,000
$60,000
$ Profit
$50,000
$40,000
$30,000
$20,000 X
$10,000
$0
0
1,000
2,000
3,000
4,000
Units Sold
Exercise 436
1. Unit contribution margin =
Break-even units =
$486,000
18,000
$540,000
$27
= $27
= 20,000 units
2. Operating income = 30,000 $27 = $810,000

Break-even sales revenue =
$27
= 0.45, or 45%
$60
$540,000
= $1,200,000
0.45
Profit = ($200,000 0.45) $54,000 = $36,000
4-19
4-19
5,000
6,000
7,000
Exercise 437
1. Break-even sales dollars =
$916,650
= $1,580,431
0.58 *
$1,305,000
*Contribution margin ratio = $2,250,000
= 0.58, or 58%
2. Margin of safety = $2,250,000 $1,580,431 = $669,569

Contributi on margin
3. Degree of operating leverage = Operating income

$1,305,000
= $388,350
= 3.36
4. Percent change in operating income = 3.36 0.20 = 0.67

New operating income = $388,350 + (0.67 $388,350) = $648,545
4-20
4-20
Exercise 438
1.
Product
Vases
Figurines
Total
Price
$40
70
Variable
Cost
=
$30
42
CM
$10
28
Sales
Mix
2
1
Package
=
CM
$20
28
$48
$30,000
= 625
$48
Break-even vases = 2 625 = 1,250

Break-even figurines = 1 625 = 625
2. The new sales mix is 3 vases to 2 figurines.
Product
Vases
Figurines
Total
Price
$40
70
Variable
Cost
=
$30
42
CM
$10
28
$35,260
= 410
$86
Break-even vases = 3 410 = 1,230

Break-even figurines = 2 410 = 820
4-21
4-21
Sales
Mix
3
2
Package
=
CM
$30
56
$86
Exercise 439
1.
a. Variable cost per unit =
$6,720,000
350,000
= $19.20
b. Contribution margin per unit =

c. Contribution margin ratio =
d. Break-even units =
$4.80
$24.00
$1,512,000
$4.80
e. Break-even sales dollars =
$1,680,000
350,000
= $4.80
= 0.20, or 20%
= 315,000
$1,512,000
= $7,560,000
0.20
OR
Break-even sales dollars = 315,000 $24 = $7,560,000
2. Units for target income =
($1,512,000 + $300,000)
= 377,500
$4.80
3. Additional operating income = $50,000 0.20 = $10,000

4. Margin of safety in units = 350,000 315,000 = 35,000 units
Margin of safety in sales dollars = $8,400,000 $7,560,000 = $840,000
$1,680,000
5. Degree of operating leverage = $168,000
= 10.0
6. New operating income = $168,000 + [(10 0.10) ($168,000)] = $336,000
4-22
4-22
PROBLEMS
Problem 440
Fixed cost
$716,800
($20 - $12)
$716,800
$8
= 89,600 units
2. Units for target profit =
=
($716,800 + $640,000)
$8
$1,356,800
$8
= 169,600 units
$8
= 0.40
$20
With additional sales of $50,000, the additional profit would be 0.40 $50,000 =
$20,000.
4. Current units =
$2,480,000
= 124,000 units
$20
Margin of safety in units = 124,000 89,600 = 34,400 units
4-23
4-23
Problem 441
Fixed cost
$96,000
($10 - $5)
= 19,200 units
($96,000 - $13,500)
($10 - $5)
= 16,500 units
3. The reduction in fixed costs reduces the break-even point because less
contribution margin is needed to cover the new, lower fixed costs. Operating
income goes up, and the margin of safety also goes up.
Problem 442
1. Unit contribution margin =
Break-even point =
$1,920,000
128,000
$1,000,000
$15

Break-even sales =
= $15
= 66,667 units
$15
= 0.3
$50
$1,000,000
= $3,333,333
0.3
OR
= $50 66,667 = $3,333,350 (rounded)
Note: Difference in break-even sales due to rounding.
2. Increased contribution margin ($1,000,000 0.3)....................
Less: Increased advertising expense........................................
Increased profit......................................................................
4-24
4-24
$300,000
100,000
$200,000
Problem 442
(Concluded)
3. $315,000 0.3 = $94,500

4. Margin of safety = $6,400,000 $3,333,333 = $3,066,667
Or
= $6,400,000 $3,333,350 = $3,066,650 (rounded)
Note: Difference in margin of safety due to rounding in break-even sales.
5.
$1,920,000
$920,000
= 2.09 (operating leverage)
20% 2.09 = 41.8% (profit increase)
Problem 443
1. Sales mix:
Squares:
$300,000
$30
Circles:
$2,500,000
$50
Product
Price
Squares
Circles
Package
$30
50
$100,000
* 10,000
$500,000
50,000
= 10,000 units
= 50,000 units
Variable
Cost* =
$10
10
Contribution
Margin
$20
40
= $10
= $10
$1,628,000
$220
= 7,400 packages
Break-even squares = 7,400 1 = 7,400

Break-even circles = 7,400 5 = 37,000
4-25
4-25
Sales
Mix =
1
5
Total
CM
$ 20
200
$220
Problem 443
(Concluded)
2. New mix:
Product
Price
Squares
Circles
Package
$30
50
Variable
Cost* =
Contribution
Margin
$10
10
$1,628,000
$260
$20
40
Sales
Mix =
3
5
Total
CM
$ 60
200
$260
= 6,262 packages
Break-even squares = 6,262 3 = 18,786

Break-even circles = 6,262 5 = 31,310
3. Increase in contribution margin for squares (25,000 $20)...
Decrease in contribution margin for circles (5,000 $40)......
Increase in total contribution margin...................................
Less: Additional fixed expenses................................................
Increase in income.................................................................
$ 500,000
(200,000)
$ 300,000
245,000
$ 55,000
Gosnell would gain $55,000 by increasing advertising for the squares. This
is a good strategy.
Problem 444
$58,500
= 650,000
($0.36 - $0.27)
Margin of safety in units = 830,000 650,000 = 180,000

2. Sales revenue ($0.36 830,000).................................................
Total variable cost ($0.27 830,000).........................................
3. Units for target profit
($58,500 + $36,000)
($0.36 - $0.27)
= 1,050,000
4-26
4-26
$298,800
224,100
$ 74,700
58,500
$ 16,200
Problem 444
(Concluded)
4. Operating income = Sales (Variable cost ratio Sales) Fixed cost

0.20 Sales = Sales (0.75 Sales) $58,500
0.20 Sales = 0.25 Sales $58,500
$58,500 = (0.25 Sales 0.20 Sales)
$58,500 = 0.05 Sales
Sales = $1,170,000
Problem 445
$302,616
1. Contribution margin ratio = $560,400 = 0.54, or 54%

2. Revenue =
$150,000
= $277,778
0.54
3. $560,400 110% = $616,440

$257,784 110% =
283,562
$332,878
$332,878
Contribution Margin Ratio = $616,440 = 0.54

The contribution margin ratio remains at 0.54.
4. Additional variable expense: $560,400 0.03 = $16,812
New contribution margin = $302,616 $16,812 = $285,804
$285,804
New contribution margin ratio = $560,400 = 0.51

Break-even point =
$150,000
= $294,118
0.51
The effect is to increase the break-even point.
4-27
4-27
Problem 445
(Concluded)
5. Present contribution margin......................................................

Projected contribution margin*..................................................
Increase in contribution margin/profit......................................
$302,616
326,604
$ 23,988
*($560,400 + $80,000) 0.51 = $326,604

Operating leverage will decrease because the increase in variable costs (the
sales commission) causes a decrease in the contribution margin.
Doerhing should pay the commission because profit would increase by
$23,988.
Problem 446
1. Revenue =
=
Fixed cost
(1 - Variable rate)
$150,000
(1/3)
= $450,000
2. Of total sales revenue, 60 percent is produced by floor lamps and 40 percent
by desk lamps.
$360,000
$30
= 12,000 units
$240,000
$20
= 12,000 units
Thus, the sales mix is 1:1.
4-28
4-28
Problem 446
(Concluded)
Product
Price
Floor lamps
Desk lamps
Package
$30
20
Variable
Cost
=
Contribution
Margin
Sales
Mix =
Total
CM
$10.00
6.67
1
1
$10.00
6.67
$16.67
$20.00
13.33
Number of packages =
=
Fixed cost
(Price - Variable cost)
$150,000
$16.67
= 8,998 packages
Floor lamps: 1 8,998 = 8,998
Desk lamps: 1 8,998 = 8,998
3. Operating leverage =
Contribution margin
Operating income
$200,000
= $50,000
= 4.0
Percentage change in profits = 4.0 40% = 160%
Problem 447
1.
CM
CM ratio
Door Handles
Trim Kits
$12 $9 = $3
$3/$12 = 0.25
$8 $5 = $3
$3/$8 = 0.375
2. Contribution margin:
($3 20,000) + ($3 40,000)
Less: Fixed costs
Operating income
$180,000
146,000
$ 34,000
4-29
4-29
Problem 447
(Concluded)
3. Sales mix (from Requirement 2): 1 door handle to 2 trim kits

Price
Door handle
Trim kit
Package
$12
8
$9
5
Break-even packages
CM
$3
3
Sales Mix
1
2
Total CM
$3.00
6.00
$9.00
$146,000
= 16,222
$9
Door handles = 1 16,222 = 16,222

Trim kits = 2 16,222 = 32,444
4. Revenue (70,000 $8).................................................................
Variable cost (70,000 $5)..........................................................
Fixed cost.....................................................................................
$560,000
350,000
$210,000
111,000
$ 99,000
Yes, operating income is $65,000 higher than when both door handles and trim
kits are sold.
Problem 448
$406,000
* 29,000
$300,000
= 21,429
$14*
= $14
Break-even in dollars = 21,429 $42** = $900,018

OR
=
$300,000
(1/3)
= $900,000
The difference is due to rounding.

**
$1,218,000
29,000
= $42
4-30
4-30
Problem 448
(Concluded)
2. Margin of safety = $1,218,000 $900,000 = $318,000

3. Sales.............................................................................................. $1,218,000
Variable cost (0.45 $1,218,000)................................................
548,100
Contribution margin............................................................... $ 669,900
Fixed costs...................................................................................
550,000
Operating income................................................................... $ 119,900
Break-even in units =
$550,000
= 23,810
$23.10*
Break-even in sales dollars =

$669,900
* 29,000
$669,900
** $1,218,000
$550,000
= $1,000,000
0.55**
= $23.10
= 55%
Problem 449
1. Variable cost ratio
Variable costs
Sales
$353,400
= $930,000 = 0.38, or 38%

=
(Sales - Variable costs)

Sales
($930,000 - $353,400)
$930,000
= 0.62, or 62%
2. Break-even sales revenue =
3. Margin of safety
$310,000
= $500,000
0.62
= Sales Break-even sales

= $930,000 $500,000 = $430,000
4-31
4-31
Problem 449
(Concluded)
4. Contribution margin from increased sales = ($7,500)(0.62) = $4,650

Cost of advertising = $5,000
No, the advertising campaign is not a good idea, because the companys
operating income will decrease by $350 ($4,650 $5,000).
Problem 450
1.
Income = Revenue Variable cost Fixed cost

$0 = 1,500P $300(1,500) $120,000
$0 = 1,500P $450,000 $120,000
$570,000 = 1,500P
P = $380
2.
$160,000
= 128,000
($3.50 - Unit variable cost)
Unit variable cost = $2.25
Problem 451
1. Contribution margin per unit = $5.60 $4.20*
= $1.40
*Variable costs per unit:
$0.70 + $0.35 + $1.85 + $0.34 + $0.76 + $0.20 = $4.20
2. Break-even in units =
$1.40
$5.60
= 0.25
($32,300 + $12,500)
= 32,000 boxes
$1.40
Break-even in sales = 32,000 $5.60 = $179,200

OR
=
($32,300 + $12,500)
= $179,200
0.25
4-32
4-32
Problem 451
(Concluded)
3. Sales ($5.60 35,000)..................................................................

Variable cost ($4.20 35,000).....................................................
Fixed cost.....................................................................................
$196,000
147,000
$ 49,000
44,800
$ 4,200
4. Margin of safety = $196,000 $179,200 = $16,800

5. Break-even in units =
$44,800
= 22,400 boxes
($6.20 - $4.20)
New operating income = $6.20(31,500) $4.20(31,500) $44,800

= $195,300 $132,300 $44,800 = $18,200
Yes, operating income will increase by $14,000 ($18,200 $4,200).
Problem 452
1. Company A:
$100,000
$50,000
=2
Company B:
$300,000
$50,000
=6
2.
Company A
Company B
X=
$50,000
(1 - 0.8)
X=
$250,000
(1 - 0.4)
X=
$50,000
0.2
X=
$250,000
0.6
X = $250,000
X = $416,667
Company B must sell more than Company A to break even because it must
cover $200,000 more in fixed costs (it is more highly leveraged).
4-33
4-33
Problem 452
(Concluded)
3. Company A:
2 50% = 100%
Company B:
6 50% = 300%
The percentage increase in profits for Company B is much higher than

Company As increase because Company B has a higher degree of operating
leverage (i.e., it has a larger amount of fixed costs in proportion to variable
costs as compared to Company A). Once fixed costs are covered, additional
revenue must cover only variable costs, and 60 percent of Company Bs
revenue above break even is profit, whereas only 20 percent of Company As
revenue above break even is profit.
Problem 453
1. Contribution margin ratios:
$23,910
May of current year = $43,560 = 0.549, or 54.9%

$23,400
May of prior year = $41,700 = 0.561, or 56.1%

2. Break-even point in sales dollars:
May of current year =
May of prior year =
$20,330
= $37,031
0.549
$13,800
= $24,599
0.561
3. Margin of safety:
May of current year = $43,560 $37,031 = $6,529
May of prior year = $41,700 $24,599 = $17,101
4. Clearly, the sharp rise in fixed costs from the prior year to the current year has
had a strong impact on the break-even point and the margin of safety. Kicker
will need to ensure that tight cost control is exercised since the margin of
safety is much slimmer. Still, the decision to go with the OEM investment
program could pay large dividends in the future. Note that the margin of safety
and break-even point give the company important information on the potential
risk of the venture but do not tell it the upside potential.
4-34
4-34
CASES
Case 454
1. Let X be a package of 3 Grade I cabinets and 7 Grade II cabinets.
0.3X($3,400) + 0.7X($1,600) = $1,600,000
X = 748 packages
Grade I: 0.3 748 = 224 units
Grade II: 0.7 748 = 524 units
2.
Product
I
II
Package
Price
Variable
Cost =
$ 3,400
1,600
21,400
$ 2,686
1,328
17,354
Direct fixed costs I

Direct fixed costs II
Common fixed costs
Total fixed costs
$ 95,000
95,000
35,000
$225,000
$225,000
$4,046
Contribution
Margin
$714
272
= 56 packages
Grade I: 3 56 = 168
Grade II: 7 56 = 392
4-35
4-35
Sales
Mix =
Total
CM
3
7
$2,142
1,904
$4,046
Case 454
(Continued)
3.
Product
I
II
Package
Price
$ 3,400
1,600
21,400
Variable
Cost =
Contribution
Margin
$ 2,444
1,208
15,788
$956
392
Sales
Mix =
3
7
Total
CM
$2,868
2,744
$5,612
$21,400X = $1,600,000 $600,000

X = 47 packages remaining
Grade I: 3 47 = 141
Grade II: 7 47 = 329
Additional contribution margin:
141($956 $714) + 329($392 $272)
Increase in fixed expenses
Increase in income
Break-even:
$73,602
44,000
$29,602
($225,000 + $44,000)
= 48 packages
$5,612
Grade I: 3 48 = 144
Grade II: 7 48 = 336
If the new break-even point is interpreted as a revised break-even point for the
current year, then total fixed costs must be reduced by the contribution
margin already earned (through the first five months) to obtain the units that
must be sold for the last seven months. These units would then be added to
those sold during the first five months:
Contribution margin earned = $600,000 (83* $2,686) (195* $1,328)
= $118,102
*224 141 = 83; 524 329 = 195
X=
($225,000 + $44,000 - $118,102)

= 27 packages
$5,612
From the first five months, 28 packages were sold (83/3 or 195/7). Thus, the
revised break-even point is 55 packages (27 + 28)in units, 165 of I and 385 of
II.
4-36
4-36
Case 454
(Concluded)
4.
Product
I
II
Package
Price
$3,400
1,600
New sales revenue

$5,000X
X
Variable
Cost =
Contribution
Margin
$2,686
1,328
$714
272
Sales
Mix =
1
1
Total
CM
$714
272
$986
$1,000,000 130% = $1,300,000
= $1,300,000
= 260 packages
Thus, 260 units of each cabinet will be sold during the rest of the year.
Effect on profits:
Change in contribution margin:
$714(260 141) $272(329 260)
$66,198
Increase in fixed costs:

$70,000(7/12)
Increase in operating income
40,833
$25,365
X =
=
Fixed cost
(Price - Variable cost)
$295,000
$986
= 299 packages (or 299 of each cabinet)

The break-even point is computed as follows:
X =
=
($295,000 - $118,102)
$986
$176,898
$986
= 179 packages (179 of each)

To this, add the units already sold, yielding the revised break-even point:
I: 83 + 179 = 262
II: 195 + 179 = 374
4-37
4-37
Case 455
1. Break-even point =
2.
Fixed expense
(Price - Varible cost)
First process:
$100,000
= 5,000 cases
($30 - $10)
Second process:
$200,000
= 8,333 cases
($30 - $6)
Income
X($30 $10) $100,000
$20X $100,000
$100,000
X
=
=
=
=
=
X(Price Variable cost) Fixed cost

X($30 $6) $200,000
$24X $200,000
$4X
25,000 cases
The manual process is more profitable if sales are less than 25,000 cases; the
automated process is more profitable at a level greater than 25,000 cases. It is
important for the manager to have a sales forecast to help in deciding which
process should be chosen.
3. The right to decide which process should be chosen belongs to the divisional
manager. Danna has an ethical obligation to report the correct information to
her superior. By altering the sales forecast, Danna unfairly and unethically
influenced the decision-making process. Managers certainly have a moral
obligation to assess the impact of their decisions on employees, and every
effort should be taken to be fair and honest with employees. Dannas behavior,
however, is not justified by the fact that it helped a number of employees
retain their employment. First, Danna had no right to make that decision.
Danna certainly has the right to voice her concerns about the impact of
automation on the employees well-being. In so doing, perhaps the divisional
manager would come to the same conclusion even though the automated
system appears to be more profitable. Second, the choice to select the manual
system may not be the best for the employees anyway. The divisional
manager may possess more information, making the selection of the
automated system the best alternative for all concerned, provided the sales
volume justifies its selection. For example, if the automated system is viable,
the divisional manager may have plans to retrain and relocate the displaced
workers in better jobs within the company. Third, her motivation for altering
the forecast seems more driven by her friendship with Jerry Johnson than any
legitimate concerns for the layoff of other employees. Danna should examine
her reasoning carefully to assess the real reasons for her behavior. Perhaps in
so doing, the conflict of interest that underlies her decision will become
apparent.
4-38
4-38
4-39
4-39

Cost-Volume-Profit Analysis: A Managerial Planning Tool: Discussion Questions

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CHAPTER 4

8. Packages of products, based on the

2. The units sold approach defines sales

9. This statement is wrong; break-even

The basic break-even equation is adjusted

A change in sales mix will change the

Margin of safety is the sales activity in excess

3. Break-even point is the level of sales activity

13. Operating leverage is the use of fixed costs

5. Variable cost ratio = Variable costs/Sales

14. Sensitivity analysis is a what-if technique

Contribution margin ratio

15. A declining margin of safety means that

7. Sales mix is the relative proportion sold of

Variable cost ratio =

Contribution margin ratio =

Cornerstone Exercise 414

Total fixed cost

Cornerstone Exercise 415

Variable cost per unit

2. Contribution margin ratio =

Contribution margin per unit

Cornerstone Exercise 416

1. Break-even sales dollars = Contributi on margin ratio

Cornerstone Exercise 416

Cornerstone Exercise 417

(Total fixed cost + Target income)

Cornerstone Exercise 418

(Total fixed cost + Target income)

Cornerstone Exercise 418

Cornerstone Exercise 419

= Package contributi on margin

Cornerstone Exercise 419

Cornerstone Exercise 420

Total fixed cost

= Contributi on margin ratio

Cornerstone Exercise 421

Cornerstone Exercise 422

Total contributi on margin

Cornerstone Exercise 423

Unit contribution margin = Price Unit variable cost

4. Sales ($16 12,850).....................................................................

3. Break-even sales revenue = $7.60 115,000 = $874,000

= $90,000 = 0.20, or 20%

2. Variable cost ratio =

3. Break-even revenue = Contributi on margin ratio

3. Units to earn target income =

Unit variable manufacturing cost includes the variable costs of production on

3. Units to earn $12,600 =

($131,650 + $18,350 + $12,600)

2. Expected sales in units...............................................................

3. Expected sales revenue ($6.28 380,000)................................ $2,386,400

*Designates calculated amount.

1. Variable cost ratio = $315,000 = 0.45, or 45%

Contribution margin ratio = $315,000 = 0.55, or 55%

3. Break-even sales revenue =

Break-even DVDs = 2 2,800 = 5,600

Break-even DVDs = 2 2,630 = 5,260

Contribution margin ratio = $555,000 = 0.405, or 40.5%

4. Margin of safety = $555,000 $292,222 = $262,778

Break-even small basic models = 3 940 = 2,820

Contribution margin ratio = $17,100,00 0 = 0.2778, or 27.78%