Chap 006

Chapter 6
Cost-Volume-Profit Relationships
Solutions to Questions
6-1 The contribution margin (CM) ratio is the ratio of the total contribution margin to total sales revenue. It can be used in a variety of ways. For example the change in total contribution margin from a given change in total sales revenue can be estimated by multiplying the change in total sales revenue by the CM ratio. If fixed costs do not change then a dollar increase in contribution margin results in a dollar increase in net operating income. The CM ratio can also be used in target profit and brea!"even analysis. 6-2 Incremental analysis focuses on the changes in revenues and costs that will result from a particular action. 6-3 #ll other things e$ual Company % with its higher fixed costs and lower variable costs will have a higher contribution margin ratio than Company #. Therefore it will tend to reali&e a larger increase in contribution margin and in profits when sales increase. 6-4 'perating leverage measures the impact on net operating income of a given percentage change in sales. The degree of operating leverage at a given level of sales is computed by dividing the contribution margin at that level of sales by the net operating income at that level of sales. 6-5 The brea!"even point is the level of sales at which profits are &ero. 6-6 (a) If the selling price decreased then the total revenue line would rise less steeply and the brea!"even point would occur at a higher unit volume. (b) If the fixed cost increased then both the fixed cost line and the total cost line would shift upward and the brea!"even point would occur at a higher unit volume. (c) If the variable cost increased then the total cost line would rise more steeply and the brea!"even point would occur at a higher unit volume. 6-7 The margin of safety is the excess of budgeted (or actual) sales over the brea!"even volume of sales. It states the amount by which sales can drop before losses begin to be incurred. 6-8 The sales mix is the relative proportions in which a company(s products are sold. The usual assumption in cost"volume"profit analysis is that the sales mix will not change. 6-9 # higher brea!"even point and a lower net operating income could result if the sales mix shifted from high contribution margin products to low contribution margin products. )uch a shift would cause the average contribution margin ratio in the company to decline resulting in less total contribution margin for a given amount of sales. Thus net operating income would decline. *ith a lower contribution margin ratio the brea!" even point would be higher because more sales would be re$uired to cover the same amount of fixed costs.
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!er"ise 6-1 (./ minutes) 0. The new income statement would be4 )ales (0/ 0// units).... 7ariable expenses....... Contribution margin.... Fixed expenses........... 8et operating income. Total Per Unit 5262 6// 526.// ./. /// ./.// 060 6// 506.// 026 /// 5 09 6//
:ou can get the same net operating income using the following approach4 'riginal net operating income............................... Change in contribution margin (0// units ; 506.// per unit).................................... 8ew net operating income.... 506 // /
0 6// 509 6/ /
.. The new income statement would be4 Total 5219 6/ / 526.// 0<= /// ./.// 01= 6// 506.// 026 /// 5 02 6// Per Unit
)ales (< <// units)........ 7ariable expenses......... Contribution margin...... Fixed expenses............. 8et operating income. . .
:ou can get the same net operating income using the following approach4 'riginal net operating income...... 506 /// Change in contribution margin ("0// units ; 506.// per unit). . . (0 6//) 8ew net operating income........... 502 6//
!er"ise 6-1 (continued) 2. The new income statement would be4 )ales (< /// units). . . 7ariable expenses.... Contribution margin. Fixed expenses........ 8et operating income................... Total Per Unit 5206 /// 526.// 0=/ /// ./.// 026 /// 506.// 026 /// 5 /
8ote4 This is the company(s brea!"even point.
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!er"ise 6-2 (2/ minutes) 0. The C7> graph can be plotted using the three steps outlined in the text. The graph appears on the next page. )tep 0. ?raw a line parallel to the volume axis to represent the total fixed expense. For this company the total fixed expense is 5.1 ///. )tep .. Choose some volume of sales and plot the point representing total expenses (fixed and variable) at the activity level you have selected. *e(ll use the sales level of = /// units. Fixed expenses............................................. 5 .1 /// 7ariable expenses (= /// units ; 50= per unit)............................................................ 011 /// 509= // Total expense............................................... / )tep 2. Choose some volume of sales and plot the point representing total sales dollars at the activity level you have selected. *e(ll use the sales level of = /// units again. Total sales revenue (= /// units ; 5.1 per unit)............................................................ 50<. // /
.. The brea!"even point is the point where the total sales revenue and the total expense lines intersect. This occurs at sales of 1 /// units. This can be verified as follows4 >rofit @ @ @ @ Anit CM ; B C Fixed expenses (5.1 C 50=) ; 1 /// C 5.1 /// 59 ; 1 /// C 5.1 /// 5.1 ///C 5.1 /// @ 5/
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!er"ise 6-2 (continued)
C7> ,raph
5.// ///
506/ ///
?ollars
50// ///
56/ ///
5/ / . /// 1 /// 7olume in Anits Fixed 3xpense Total )ales Eevenue Total 3xpense 9 /// = ///
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!er"ise 6-3 (06 minutes) 0. The profit graph is based on the following simple e$uation4 >rofit @ Anit CM ; B C Fixed expenses >rofit @ (509 C 500) ; B C 509 /// >rofit @ 56 ; B C 509 /// To plot the graph select two different levels of sales such as B@/ and B@1 ///. The profit at these two levels of sales are " 509 /// (@56 ; / C 509 ///) and 51 /// (@ 56 ; 1 /// C 509 ///).
>rofit ,raph
56 ///
5/
"56 /// >rofit "50/ /// "506 /// "5./ /// / 6// 0 /// 0 6// . /// . 6// 2 /// 2 6// 1 /// )ales 7olume in Anits
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!er"ise 6-3 (continued) .. Foo!ing at the graph the brea!"even point appears to be 2 .// units. This can be verified as follows4 >rofit @ @ @ @ Anit CM ; B C Fixed expenses 56 ; B C 509 /// 56 ; 2 .// C 509 /// 509 /// C 509 /// @ 5/
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!er"ise 6-4 (0/ minutes) 0. The company(s contribution margin (CM) ratio is4 Total sales........................ 5.// /// Total variable expenses.... 0./ /// @ Total contribution margin............................ =/ /// G Total sales..................... 5.// /// @ CM ratio........................ 1/H .. The change in net operating income from an increase in total sales of 50 /// can be estimated by using the CM ratio as follows4 Change in total sales................................ ; CM ratio................................................. @ 3stimated change in net operating income................................................... This computation can be verified as follows4 Total sales................... G Total units sold........ @ )elling price per unit........................... Increase in total sales. G )elling price per unit........................... @ Increase in unit sales......................... 'riginal total unit sales......................... 8ew total unit sales. . . . Total unit sales............ )ales........................... 7ariable expenses.......
00
50 /// 1/ H 5 1//
5.// // / 6/ /// units per 51.// unit 50 /// per 51.// unit .6/ units 6/ /// units 6/ .6/ units Original New 6/ /// 6/ .6/ 5.// // 5./0 // / / 0./ /// 0./ 9//
Managerial #ccounting 02th 3dition
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Contribution margin.... =/ /// =/ 1// Fixed expenses........... 96 /// 96 /// 8et operating income. 5 06 /// 5 06 1//
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!er"ise 6-5 (./ minutes) 0. The following table shows the effect of the proposed change in monthly advertising budget4 Sales With Additional Advertisin Current g Differenc Sales Budget e 50=/ // )ales........................... / 50=< /// 5 < /// 0.9 // 7ariable expenses....... / 02. 2// 9 2// Contribution margin.... 61 /// 69 D// . D// Fixed expenses........... 2/ /// 26 /// 6 /// 5 .1 // 8et operating income. / 5 .0 D// (5 . 2//) #ssuming no other important factors need to be considered the increase in the advertising budget should not be approved because it would lead to a decrease in net operating income of 5. 2//. #lternative )olution 0 3xpected total contribution margin4 50=< /// ; 2/H CM ratio............. >resent total contribution margin4 50=/ /// ; 2/H CM ratio............. Incremental contribution margin..... Change in fixed expenses4 Fess incremental advertising expense........................................ Change in net operating income..... #lternative )olution . Incremental contribution margin4 5< /// ; 2/H CM ratio................ Fess incremental advertising
02
569 D// 61 /// . D// 6 /// (5 . 2//)
5. D// 6 ///
expense........................................ Change in net operating income.....
(5. 2//)
!er"ise 6-5 (continued) .. The 5. increase in variable cost will cause the unit contribution margin to decrease from 5.D to 5.6 with the following impact on net operating income4 3xpected total contribution margin with the higher"$uality components4 . .// units ; 5.6 per unit................ >resent total contribution margin4 . /// units ; 5.D per unit................ Change in total contribution margin....
566 /// 61 /// 5 0 ///
#ssuming no change in fixed costs and all other factors remain the same the higher"$uality components should be used.
!er"ise 6-6 (0/ minutes) 0. The e$uation method yields the re$uired unit sales B as follows4 >rofit @ 50/ /// @ 50/ /// @ 51/ ; B @ B@ B@ Anit CM ; B C Fixed expenses (50./ C 5=/) ; B C 56/ /// (51/) ; B C 56/ /// 50/ /// I 56/ /// 59/ /// G 51/ 0 6// units
.. The formula approach yields the re$uired unit sales as follows4 Anits sold to attain @ Target profit I Fixed expenses the target profit Anit contribution margin @ @ 506 /// I 56/ /// 51/ 596 /// @ 0 9.6 units 51/
!er"ise 6-7 (./ minutes) 0. The e$uation method yields the brea!"even point in unit sales B as follows4 >rofit @ 5/ @ 5/ @ 52B @ B@ B@ Anit CM ; B C Fixed expenses (506 C 50.) ; B C 51 .// (52) ; B C 51 .// 51 .// 51 .// G 52 0 1// bas!ets
.. The e$uation method can be used to compute the brea!"even point in sales dollars as follows4 CM ratio @ @ Anit contribution margin Anit selling price 52 @ /../ 506 CM ratio ; )ales C Fixed expenses /../ ; )ales C 51 .// 51 .// 51 .// G /../ 5.0 ///
>rofit @ 5/ @ /../ ; )ales @ )ales @ )ales @
2. The formula method gives an answer that is identical to the e$uation method for the brea!"even point in unit sales4 Anit sales to brea! even @ @ Fixed expenses Anit CM 51 .// @ 0 1// bas!ets 52
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!er"ise 6-7 (continued) 1. The formula method also gives an answer that is identical to the e$uation method for the brea!"even point in dollar sales4 ?ollar sales to brea! even @ @ Fixed expenses CM ratio 51 .// @ 5.0 /// /../
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!er"ise 6-8 (0/ minutes) 0. To compute the margin of safety we must first compute the brea!"even unit sales. >rofi t@ 5/ @ 5/ @ 50/ B@ B@ B@ Anit CM ; B C Fixed expenses (52/ C 5./) ; B C 5D 6// (50/) ; B C 5D 6// 5D 6// 5D 6// G 50/ D6/ units
)ales (at the budgeted volume of 0 /// 52/ // units)...................................................... / Fess brea!"even sales (at D6/ units)......... .. 6// Margin of safety (in dollars)...................... 5 D 6// .. The margin of safety as a percentage of sales is as follows4 Margin of safety (in dollars)........ G )ales....................................... Margin of safety percentage....... 5D 6// 52/ // / .6H
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!er"ise 6-9 (./ minutes) 0. The company(s degree of operating leverage would be computed as follows4 Contribution margin........... G 8et operating income..... ?egree of operating leverage.......................... 51= // / 50/ // / 1.=
.. # 6H increase in sales should result in a .1H increase in net operating income computed as follows4 ?egree of operating leverage............................. ; >ercent increase in sales................................. 3stimated percent increase in net operating income............................................................. 1.= 6H .1H
2. The new income statement reflecting the change in sales is4 Amount 5=1 /// 22 9// 6/ 1// 2= /// 50. 1// 50. 1/ / 50/ // / .1H Percent of Sales 0//H 1/H 9/H
)ales........................ 7ariable expenses.... Contribution margin. Fixed expenses........ 8et operating income...................
8et operating income reflecting change in sales............................................................. 'riginal net operating income......................... >ercent change in net operating income.........
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!er"ise 6-1# (./ minutes) 0. The overall contribution margin ratio can be computed as follows4 'verall CM ratio @ @ Total contribution margin Total sales 52/ /// @2/H 50// ///
.. The overall brea!"even point in sales dollars can be computed as follows4 'verall brea!"even @ @ Total fixed expenses 'verall CM ratio
5.1 /// @ 5=/ /// 2/H
2. To construct the re$uired income statement we must first determine the relative sales mix for the two products4 Claimjum er 'riginal dollar sales. . >ercent of total......... )ales at brea!"even. . 52/ /// 2/H 5.1 /// Claimjum er 5.1 /// 09 /// 5 = /// !a"eove r 5D/ /// D/H 569 /// Total 50// // / 0//H 5=/ ///
)ales......................... 7ariable expensesJ.. . Contribution margin. . Fixed expenses......... 8et operating income
!a"eove r Total 569 /// 5=/ /// 1/ /// 69 /// 509 /// .1 /// .1 /// 5 /
JClaimKumper variable expenses4 (5.1 ///L52/ ///) ; 5./ /// @ 509 /// Ma!eover variable expenses4 (569 ///L5D/ ///) ; 56/ /// @ 51/ ///
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!er"ise 6-11 (./ minutes) Total Per Unit
)ales (./ /// units ; 0.06 @ .2 /// 0. units)................................................... 5216 /// 5 06.// 7ariable expenses.................................. ./D /// <.// Contribution margin............................... 02= /// 5 9.// Fixed expenses...................................... D/ /// 8et operating income............................. 5M9= /// )ales (./ /// units ; 0..6 @ .6 /// .. units)................................................... 522D 6// 502.6/ 7ariable expenses.................................. ..6 /// <.// Contribution margin............................... 00. 6// 5 1.6/ Fixed expenses...................................... D/ /// 8et operating income............................. 5M1. 6// )ales (./ /// units ; /.<6 @ 0< /// 2. units)................................................... 5202 6// 509.6/ 7ariable expenses.................................. 0D0 /// <.// Contribution margin............................... 01. 6// 5 D.6/ Fixed expenses...................................... </ /// 8et operating income............................. 5M6. 6// )ales (./ /// units ; /.</ @ 0= /// 1. units)................................................... 52/. 1// 509.=/ 7ariable expenses.................................. 0D. =// <.9/ Contribution margin............................... 0.< 9// 5 D../ Fixed expenses...................................... D/ /// 8et operating income............................. 5M6< 9//
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!er"ise 6-12 (2/ minutes) 0. >rofit @ Anit CM ; B C Fixed expenses 5/ @ (52/ C 50.) ; B C 5.09 /// 5/ @ (50=) ; B C 5.09 /// 50=B @ 5.09 /// B @ 5.09 /// G 50= @ 0. /// units or at 52/ per unit B 529/ /// #lternative solution4 Fixed expenses Anit sales @ to brea! even Anit contribution margin @ 5.09 /// @ 0. /// units 50=
or at 52/ per unit 529/ /// .. The contribution margin is 5.09 /// because the contribution margin is e$ual to the fixed expenses at the brea!"even point. 2. Anits sold to attain Target profit I Fixed expenses @ target profit Anit contribution margin @ 5</ /// I 5.09 /// @ 0D /// units 50= Total Unit 560/ // / 52/ ./1 /// 0. 2/9 /// 50= .09 /// 5M </ ///
)ales (0D /// units ; 52/ per unit) 7ariable expenses (0D /// units ; 50. per unit)....... Contribution margin........................ Fixed expenses............................... 8et operating income.....................
!er"ise 6-12 (continued) 1. Margin of safety in dollar terms4 Margin of safety @ Total sales " %rea!"even sales in dollars @ 516/ /// " 529/ /// @ 5</ /// Margin of safety in percentage terms4 Margin of safety @Margin of safety in dollars percentage Total sales @ 5</ /// @ ./H 516/ ///
6. The CM ratio is 9/H. 3xpected total contribution margin4 (56// /// ; 52// // 9/H)................................................................... / >resent total contribution margin4 (516/ /// ; 9/H)................................................................... .D/ /// Increased contribution margin.............................. 5 2/ /// #lternative solution4 56/ /// incremental sales ; 9/H CM ratio @ 52/ /// ,iven that the company(s fixed expenses will not change monthly net operating income will also increase by 52/ ///.
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!er"ise 6-13 (2/ minutes) 0. 7ariable expenses4 51/ ; (0//H N 2/H) @ 5.= .. a. )elling price...................... 51/ 0//H 7ariable expenses............. .= D/H Contribution margin.......... 50. 2/H >rofit @ 5/ @ 50.B @ B@ B@ Anit CM ; B C Fixed expenses 50. ; B C 50=/ /// 50=/ /// 50=/ /// G 50. 06 /// units
In sales dollars4 06 /// units ; 51/ per unit @ 59// /// #lternative solution4 @ CM ratio ; )ales C Fixed >rofit expenses 5/ @ /.2/ ; )ales C 50=/ /// /.2/ ; )ales @ 50=/ /// )ales @ 50=/ /// G /.2/ )ales @ 59// /// In units4 59// /// G 51/ per unit @ 06 /// units b. >rofit @ 59/ // /@ 50.B @ 50.B @ B@ B@ Anit CM ; B C Fixed expenses 50. ; B C 50=/ /// 59/ /// I 50=/ /// 5.1/ /// 5.1/ /// G 50. ./ /// units
In sales dollars4 ./ /// units ; 51/ per unit @ 5=// ///
!er"ise 6-13 (continued) #lternative solution4 @ CM ratio ; )ales C Fixed >rofit expenses 59/ /// @ /.2/ ; )ales C 50=/ /// /.2/ ; )ales @ 5.1/ /// )ales @ 5.1/ /// G /.2/ )ales @ 5=// /// In units4 5=// /// G 51/ per unit @ ./ /// units c. The company(s new costLrevenue relation will be4 )elling price.......................... 7ariable expenses (5.= N 51) Contribution margin.............. 51/ 0//H .1 9/H 509 1/H
@ Anit CM ; B C Fixed >rofit expenses 5/ @ (51/ C 5.1) ; B C 50=/ /// 509B @ 50=/ /// B @ 50=/ /// G 509 per unit B @ 00 .6/ units In sales dollars4 00 .6/ units ; 51/ per unit @ 516/ /// #lternative solution4 @ CM ratio ; )ales C Fixed >rofit expenses 5/ @ /.1/ ; )ales C 50=/ /// /.1/ ; )ales @ 50=/ /// )ales @ 50=/ /// G /.1/ )ales @ 516/ /// In units4 516/ /// G 51/ per unit @ 00 .6/ units
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!er"ise 6-13 (continued) 2. a. Fixed expenses Anit sales to @ brea! even Anit contribution margin @ 50=/ /// @ 06 /// units 50. per unit
In sales dollars4 06 /// units ; 51/ per unit @ 59// /// #lternative solution4 ?ollar sales to @ Fixed expenses brea! even CM ratio @ 50=/ /// @ 59// /// /.2/
In units4 59// /// G 51/ per unit @ 06 /// units b. Anit sales to attain @ Fixed expenses I Target profit target profit Anit contribution margin @ 50=/ /// I 59/ /// @ ./ /// units 50. per unit
In sales dollars4 ./ /// units ; 51/ per unit @5=// /// #lternative solution4 ?ollar sales to attain @ Fixed expenses I Target profit target profit CM ratio @ 50=/ /// I 59/ /// @ 5=// /// /.2/
In units4 5=// /// G 51/ per unit @ ./ /// units
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!er"ise 6-13 (continued) c. Fixed expenses %rea!"even point @ in unit sales Anit contribution margin @ 50=/ /// @00 .6/ units 509 per unit
In sales dollars4 00 .6/ units ; 51/ per unit @ 516/ /// #lternative solution4 %rea!"even point @Fixed expenses in sales dollars CM ratio @ 50=/ /// @516/ /// /.1/
In units4 516/ /// G 51/ per unit @00 .6/ units
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!er"ise 6-14 (./ minutes) a. 8umber of units sold....................... )ales....................... 7ariable expenses... Contribution margin Fixed expenses....... 8et operating income.................. 8umber of units sold....................... Case #$ 06 /// J 50=/ // / J 50. 0./ /// J = 9/ /// 51 6/ /// J 5M 0/ /// Case #& Case #% 1 /// 50// 9/ 1/ 2. /// J /// /// /// J 5.6 06 50/ J
5 M= /// J Case #'
0/ /// J 9 /// J 5.// // )ales....................... / 5./ 52// /// J 7ariable expenses. D/ /// J D .0/ /// Contribution margin 02/ /// 502 J </ /// Fixed expenses....... 00= /// 0// /// J 8et operating (5 0/ /// income.................. 5 0. /// J )J b.
56/ 26 506
Case #$ Case #% )ales....................... 56// /// J 0//H 51// /// J 0//H 7ariable expenses. . . 1// /// =/H .9/ /// J 96H Contribution margin 0// /// ./H J 01/ /// 26H Fixed expenses........ <2 /// 0// /// J 8et operating income.................. 5 MD /// J 5M1/ /// Case #& Case #' )ales....................... 5.6/ /// 0//H 59// /// J 0//H 7ariable expenses... 0// /// 1/H 1./ /// J D/H Contribution margin 06/ /// 9/H J 0=/ /// 2/H Fixed expenses....... 02/ /// J 0=6 /// 8et operating income.................. 5M./ /// J (5 6 ///) J
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J,iven
!er"ise 6-15 (06 minutes) 0. )ales (06 /// games)..... 7ariable expenses.......... Contribution margin....... Fixed expenses.............. 8et operating income..... Per Total Unit 52// /// 5./ </ /// 9 .0/ /// 501 0=. /// 5 .= ///
The degree of operating leverage is4 ?egree of operating @ Contribution margin leverage 8et operating income @ 5.0/ /// @ D.6 5.= ///
.. a. )ales of 0= /// games represent a ./H increase over last year(s sales. %ecause the degree of operating leverage is D.6 net operating income should increase by D.6 times as much or by 06/H (D.6 ; ./H). b. The expected total dollar amount of net operating income for next year would be4 Fast year(s net operating income.............. 3xpected increase in net operating income next year (06/H ; 5.= ///)...... Total expected net operating income....... 5.= /// 1. /// 5D/ ///
!er"ise 6-16 (2/ minutes) 0. >rofit @ Anit CM ; B C Fixed expenses 5/ @ (56/ C 52.) ; B C 50/= /// 5/ @ (50=) ; B C 50/= /// 50=B @ 50/= /// B @ 50/= /// G 50= @ 9 /// stoves or at 56/ per stove 52// /// in B sales #lternative solution4 Fixed expenses Anit sales to @ brea! even Anit contribution margin @ 50/= /// @ 9 /// stoves 50=.// per stove
or at 56/ per stove 52// /// in sales. .. #n increase in variable expenses as a percentage of the selling price would result in a higher brea!"even point. If variable expenses increase as a percentage of sales then the contribution margin will decrease as a percentage of sales. *ith a lower CM ratio more stoves would have to be sold to generate enough contribution margin to cover the fixed costs. 2. Present( )*+++ Stoves Pro osed( $+*+++ Stoves, Per Total Unit 516/ // JJ / 516 /// /// /// /// 2. 502
)ales......................... 7ariable expenses.... Contribution margin.. Fixed expenses......... 8et operating income...................
Total Per Unit 51// // / 56/ .69 // / 2. 2./ 011 /// 50= 02/ 0/= // / 0/= 5M 29 /// 5 ..
J= /// stoves ; 0..6 @ 0/ /// stoves

JJ56/ ; /.< @ 516 #s shown above a .6H increase in volume is not enough to offset a 0/H reduction in the selling priceO thus net operating income decreases.
!er"ise 6-16 (continued) 1. >rofit @ 526 /// @ 526 /// @ 502 ; B @ B@ B@ Anit CM ; B C Fixed expenses (516 C 52.) ; B C 50/= /// (502) ; B C 50/= /// 5012 /// 5012 /// G 502 00 /// stoves
#lternative solution4 Anit sales to attain @ Target profit I Fixed expenses target profit Anit contribution margin @ 526 /// I 50/= /// 502
@ 00 /// stoves
!er"ise 6-17 (2/ minutes) 0. The contribution margin per person would be4 >rice per tic!et................................ 7ariable expenses4 ?inner........................................... 50= Favors and program...................... . Contribution margin per person....... 526 ./ 506
The fixed expenses of the dinner"dance total 59 ///. The brea!"even point would be4 >rofit @ 5/ @ 5/ @ 506B @ B@ B@ Anit CM ; B C Fixed expenses (526 C 5./) ; B C 59 /// (506) ; B C 59 /// 59 /// 59 /// G 506 1// personsO or at 526 per person 501 ///
#lternative solution4 Fixed expenses Anit sales to @ brea! even Anit contribution margin @ 59 /// @ 1// persons 506
or at 526 per person 501 ///. .. 7ariable cost per person (50= I 5.)......... Fixed cost per person (59 /// G 2// persons)................................................. Tic!et price per person to brea! even....... 5./ ./ 51/
!er"ise 6-17 (continued) 2. Cost"volume"profit graph4

5./ /// 50= /// 509 /// 501 /// %rea!"even point4 1// persons or 501 /// total sales
Total )ales Total 3xpenses
Total )ales
50. /// 50/ /// 5= /// 59 /// 51 /// 5. /// 5/ / 0// .// 2// 1// 6// 9// D// Total Fixed 3xpenses
8umber of >ersons
!er"ise 6-18 (2/ minutes) 0. -light D.namic Amount / >06/ // )ales............. / 0// 7ariable 2/ // expenses.... / ./ Contribution >0./ // margin........ / =/ Fixed expenses.... 8et operating income........
Sure Shot Amount / >.6/ // / 0// 09/ /// 91 > </ /// 29
Total Com an. Amount / >1// // / 0//./ 0</ /// .0/ /// 0=2 D6/ > .9 .6/ 1D.6 6..6J
J>.0/ /// G >1// /// @ 6..6H .. The brea!"even point for the company as a whole is4 ?ollar sales to @ Fixed expenses brea! even 'verall CM ratio @ >0=2 D6/ @ >26/ /// /.6.6
2. The additional contribution margin from the additional sales is computed as follows4 >0// /// ; 6..6H CM ratio @ >6. 6// #ssuming no change in fixed expenses all of this additional contribution margin of >6. 6// should drop to the bottom line as increased net operating income. This answer assumes no change in selling prices variable costs per unit fixed expense or sales mix.
Pro$lem 6-19 (9/ minutes) 0. )ales price.................. 5./.// 0//H 7ariable expenses....... =.// 1/H Contribution margin.... 50..// 9/H . . ?ollar sales to @ Fixed expenses brea! even CM ratio @ 50=/ /// @ 52// /// /.9/
2. 5D6 /// increased sales ; /.9/ CM ratio @ 516 /// increased contribution margin. %ecause the fixed costs will not change net operating income should also increase by 516 ///. 1. a. Contribution margin ?egree of @ operating leverage 8et operating income @ 5.1/ /// @1 59/ ///
b. 1 ; ./H @ =/H increase in net operating income. In dollars this increase would be =/H ; 59/ /// @ 51= ///. 6. 0ast 1ear( $)*+++ units Per Amount Unit 529/ // / 5./.// 011 /// =.// .09 /// 50..// 0=/ /// Pro osed( %'*+++ units, Per Amount Unit 512. // JJ / 50=.// 0<. /// =.// .1/ /// 50/.// .0/ /// 5 2/ ///
)ales........................ 7ariable expenses.... Contribution margin. Fixed expenses......... 8et operating income................... 5 29 ///
J0= /// units I 9 /// units @ .1 /// units JJ5./.// ; /.< @ 50=.// 8o the changes should not be made.
Pro$lem 6-19 (continued) 9. 3xpected total contribution margin4 5.1D 6/ 0= /// units ; 0..6 ; 500.// per unitJ................ / >resent total contribution margin4 0= /// units ; 50..// per unit............................. .09 /// Incremental contribution margin and the amount by which advertising can be increased with net operating income remaining unchanged............... 5 20 6// J5./.// N (5=.// I 50.//) @ 500.//
Pro$lem 6-2# (2/ minutes) 0. >ercentage of total sales......... White 1/H %2// // / 0// H Product -ragrant .1H %0=/ // / 0//H 29 /// ./H %011 // / =/H 0oon2ain Total
)ales.................... 7ariable expenses........... .09 /// D.H Contribution margin.............. % =1 /// .=H Fixed expenses.... 8et operating income (loss)..... J%2</ /// G %D6/ /// @ 6.H .. %rea!"even sales would be4 ?ollar sales to @ Fixed expenses brea! even CM ratio @
29H 0//H %.D/ // 0// / 0//H %D6/ /// H 0/= // 29/ // / 1/H / 1=H %09. // J / 9/H 2</ /// 6.H 11< .= / (% 6< .=/)
%11< .=/ @ %=91 /// /.6./
Pro$lem 6-2# (continued) 2. Memo to the president4 #lthough the company met its sales budget of %D6/ /// for the month the mix of products changed substantially from that budgeted. This is the reason the budgeted net operating income was not met and the reason the brea!"even sales were greater than budgeted. The company(s sales mix was planned at ./H *hite 6.H Fragrant and .=H Foon&ain. The actual sales mix was 1/H *hite .1H Fragrant and 29H Foon&ain. #s shown by these data sales shifted away from Fragrant Eice which provides our greatest contribution per dollar of sales and shifted toward *hite Eice which provides our least contribution per dollar of sales. #lthough the company met its budgeted level of sales these sales provided considerably less contribution margin than we had planned with a resulting decrease in net operating income. 8otice from the attached statements that the company(s overall CM ratio was only 6.H as compared to a planned CM ratio of 91H. This also explains why the brea!"even point was higher than planned. *ith less average contribution margin per dollar of sales a greater level of sales had to be achieved to provide sufficient contribution margin to cover fixed costs.
Pro$lem 6-21 (9/ minutes) 0. >rofit @ 5/ @ 5/ @ 50.B @ B@ B@ Anit CM ; B C Fixed expenses (52/ C 50=) ; B C 506/ /// (50.) ; B C 506/ /// 506/ /// 506/ /// G 50. 0. 6// pairs
0. 6// pairs ; 52/ per pair @ 52D6 /// in sales #lternative solution4 Fixed expenses Anit sales to @ brea! even Anit contribution margin @ 506/ /// @ 0. 6// pairs 50..//
?ollar sales to @ Fixed expenses brea! even CM ratio @ 506/ /// @ 52D6 /// in sales /.1/
.. )ee the graph on the following page. 2. The simplest approach is4 %rea!"even sales.................. #ctual sales.......................... )ales short of brea!"even..... 0. 6// pairs 0. /// pairs 6// pairs
6// pairs ; 50. contribution margin per pair @ 59 /// loss #lternative solution4 )ales (0. /// pairs ; 52/.// per pair)................................................ 7ariable expenses (0. /// pairs ; 50=.// per pair).... Contribution margin.......................... Fixed expenses................................. 8et operating loss.............................
529/ /// .09 /// 011 /// 06/ /// (5 9 ///)
Pro$lem 6-21 (continued) .. Cost"volume"profit graph4

56// 516/ 51// 526/
%rea!"even point4 0. 6// pairs of shoes or 52D6 /// total sales
Total )ales Total 3xpense s
Total )ales (///s)
52// 5.6/ 5.// 506/ 50// 56/ 5/ / . 6// 6 /// D 6// 0/ /// 0. 6// 06 /// 0D 6// ./ ///
Total Fixed 3xpense s
8umber of >airs of )hoes )old
Pro$lem 6-21 (continued) 1. The variable expenses will now be 50=.D6 (50=.// I 5/.D6) per pair and the contribution margin will be 500..6 (52/.// N 50=.D6) per pair. >rofit @ 5/ @ 5/ @ 500..6 B@ B@ B@ Anit CM ; B C Fixed expenses (52/.// C 50=.D6) ; B C 506/ /// (500..6) ; B C 506/ /// 506/ /// 506/ /// G 500..6 02 222 pairs (rounded)
02 222 pairs ; 52/.// per pair @ 51// /// in sales #lternative solution4 Anit sales to @ Fixed expenses brea! even CM per unit @ 506/ /// @ 02 222 pairs 500..6
?ollar sales to @ Fixed expenses brea! even CM ratio @ 506/ /// @ 51// /// in sales /.2D6 06 /// pairs 0. 6// pairs . 6// pairs
6. The simplest approach is4 #ctual sales........................... %rea!"even sales................... 3xcess over brea!"even sales
. 6// pairs ; 500.6/ per pairJ @ 5.= D6/ profit J50..// present contribution margin N 5/.6/ commission @ 500.6/ #lternative solution4 )ales (06 /// pairs ; 52/.// per pair)...... 7ariable expenses (0. 6// pairs ; 50=.// per pairO . 6// pairs ; 50=.6/ per pair). . Contribution margin...................................
)olutions Manual Chapter 9
516/ /// .D0 .6/ 0D= D6/

11
Fixed expenses.......................................... 8et operating income................................
06/ /// 5 .= D6/
Pro$lem 6-21 (continued) 9. The new variable expenses will be 502.6/ per pair. >rofit @ 5/ @ 5/ @ 509.6/ B@ B@ B@ Anit CM ; B C Fixed expenses (52/.// C 502.6/) ; B C 50=0 6// (509.6/) ; B C 50=0 6// 50=0 6// 50=0 6// G 509.6/ 00 /// pairs
00 /// pairs ; 52/.// per pair @ 522/ /// in sales #lthough the change will lower the brea!"even point from 0. 6// pairs to 00 /// pairs the company must consider whether this reduction in the brea!"even point is more than offset by the possible loss in sales arising from having the sales staff on a salaried basis. Ander a salary arrangement the sales staff has less incentive to sell than under the present commission arrangement resulting in a potential loss of sales and a reduction of profits. #lthough it is generally desirable to lower the brea!"even point management must consider the other effects of a change in the cost structure. The brea!"even point could be reduced dramatically by doubling the selling price but it does not necessarily follow that this would improve the company(s profit.
Pro$lem 6-22 (9/ minutes) 0. The CM ratio is 2/H. Total 56=6 // )ales (0< 6// units).... / 52/.// 1/< 6/ 7ariable expenses...... / .0.// 50D6 6/ Contribution margin. . . / 5M<.// The brea!"even point is4 >rofit @ 5/ @ 5/ @ 5<B @ B@ B@ Anit CM ; B C Fixed expenses (52/ C 5.0) ; B C 50=/ /// (5<) ; B C 50=/ /// 50=/ /// 50=/ /// G 5< ./ /// units Per Unit Percent of Sales 0//H D/H 2/H
./ /// units ; 52/ per unit @ 59// /// in sales #lternative solution4 Fixed expenses Anit sales to @ brea! even Anit contribution margin @ 50=/ /// @ ./ /// units 5<.//
?ollar sales to @ Fixed expenses brea! even CM ratio @ 50=/ /// @ 59// /// in sales /.2/
.. Incremental contribution margin4 5=/ /// increased sales ; /.2/ CM ratio. . . Fess increased advertising cost.................... Increase in monthly net operating income....
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5.1 /// 09 /// 5 = ///
)ince the company is now showing a loss of 51 6// per month if the changes are adopted the loss will turn into a profit of 52 6// each month (5= /// less 51 6// @ 52 6//).
Pro$lem 6-22 (continued) 2. )ales (2< /// units P 5.D.// per unitJ). 50 /62 /// 7ariable expenses (2< /// units P 5.0.// per unit).......... =0< /// Contribution margin................................ .21 /// Fixed expenses (50=/ /// I 59/ ///). . . .1/ /// (5 9 /// 8et operating loss................................... ) J52/.// N (52/.// ; /.0/) @ 5.D.// 1. >rofit @ 5< D6/ @ 5< D6/ @ 5=..6B @ B@ B@ Anit CM ; B C Fixed expenses (52/.// C 5.0.D6) ; B C 50=/ /// (5=..6) ; B C 50=/ /// 50=< D6/ 50=< D6/ G 5=..6 .2 /// units
J5.0.// I 5/.D6 @ 5.0.D6 #lternative solution4 Anit sales to attain @ Target profit I Fixed expenses target profit CM per unit @ 5< D6/ I 50=/ /// @ .2 /// units 5=..6JJ
JJ52/.// N 5.0.D6 @ 5=..6 6. a. The new CM ratio would be4 Per Unit 52/.// 0=.// 50..// Percent of Sales 0//H 9/H 1/H
)ales........................ 7ariable expenses.... Contribution margin.
Pro$lem 6-22 (continued) The new brea!"even point would be4 Fixed expenses Anit sales to @ brea! even Anit contribution margin @ 50=/ /// I 5D. /// @ .0 /// units 50..//
?ollar sales to @ Fixed expenses brea! even CM ratio @ 50=/ /// I 5D. /// @ 592/ /// /.1/ Automated Per Total Unit / 5D=/ // 52/./ / / 0// 19= /// 0=.// 50../ 20. /// / .6. /// 5M 9/ /// 9/ 1/
b. Comparative income statements follow4 Not Automated Per Total Unit / )ales (.9 /// 5D=/ // 52/./ units)............ / / 0// 7ariable 619 // expenses...... / .0.// D/ Contribution margin.......... .21 /// 5 <.// 2/ Fixed 0=/ // expenses...... / 8et operating 5 61 // income.......... /
c. *hether or not the company should automate its operations depends on how much ris! the company is willing to ta!e and on prospects for future sales. The proposed changes would increase the company(s fixed costs and its brea!"even point. -owever the changes would also increase the company(s CM ratio (from /.2/ to /.1/). The higher CM ratio means that once the brea!"even point is reached profits will increase more rapidly than at present. If .9 /// units are sold next month for example the higher CM ratio will generate 59 /// more in profits than if no changes are
made.
Pro$lem 6-22 (continued) The greatest ris! of automating is that future sales may drop bac! down to present levels (only 0< 6// units per month) and as a result losses will be even larger than at present due to the company(s greater fixed costs. (8ote the problem states that sales are erratic from month to month.) In sum the proposed changes will help the company if sales continue to trend upward in future monthsO the changes will hurt the company if sales drop bac! down to or near present levels. %ote to the &nstru"tor' #lthough it is not as!ed for in the problem if time permits you may want to compute the point of indifference between the two alternatives in terms of units soldO i.e. the point where profits will be the same under either alternative. #t this point total revenue will be the sameO hence we include only costs in our e$uation4 >oint of indifference in units Fet B @ sold 5.0.//B I 50=/ /// @ 50=.//B I 5.6. /// 52.//B @ 5D. /// B @ 5D. /// G 52.// B @ .1 /// units If more than .1 /// units are sold in a month the proposed plan will yield the greater profitsO if less than .1 /// units are sold in a month the present plan will yield the greater profits (or the least loss).
Pro$lem 6-23 (16 minutes) 0. a. 3awaiian -antas. Amount 52// // / / 0// H Total Amoun Amount / t / 56// // 0// 5=// // / H / 0//H .=/ // 0// /// ./H / 26H 51// // / =/H 6./ /// 96H 1D6 =/ / 5 11 ./ / Tahitian 4o.
)ales....................... 7ariable expenses... Contribution margin Fixed expenses....... 8et operating income................. b.
0=/ /// 9/H 50./ // / 1/H
?ollar sales to @ Fixed expenses @ 51D6 =// @ 5D2. /// brea! even CM ratio /.96 Margin of safety @ #ctual sales " %rea!"even sales @ 5=// /// " 5D2. /// @ 59= /// Margin of safety @ Margin of safety in dollars percentage #ctual sales @ 59= /// @ =.6H 5=// ///
Pro$lem 6-23 (continued) 3awaiian Tahitian Samoan -antas. 4o. Delight Total .. a. Amoun Amoun t / Amount / t / Amount / 52// // 56// // 516/ // 50 .6/ // 0//./ )ales............... / 0//H / 0//H / 0//H / H 7ariable 0=/ // 29/ // expenses...... / 9/H 0// /// ./H / =/H 91/ /// 60..H Contribution 50./ // 51// // 5 </ // margin.......... / 1/H / =/H / ./H 90/ /// 1=.=H Fixed expenses...... 1D6 =// 8et operating 5 021 ./ income.......... /
Pro$lem 6-23 (continued) b. ?ollar sales to @ Fixed expenses @ 51D6 =// @ 5<D6 /// brea! even CM ratio /.1== Margin of safety @ #ctual sales " %rea!"even sales @ 50 .6/ /// " 5<D6 /// @ 5.D6 /// Margin of safety @ Margin of safety in dollars percentage #ctual sales 5.D6 /// @ @ ..H 50 .6/ /// 2. The reason for the increase in the brea!"even point can be traced to the decrease in the company(s overall contribution margin ratio when the third product is added. 8ote from the income statements above that this ratio drops from 96H to 1=.=H with the addition of the third product. This product (the )amoan ?elight) has a CM ratio of only ./H which causes the average contribution margin per dollar of sales to shift downward. This problem shows the somewhat tenuous nature of brea!" even analysis when the company has more than one product. The analyst must be very careful of his or her assumptions regarding sales mix including the addition (or deletion) of new products. It should be pointed out to the president that even though the brea!"even point is higher with the addition of the third product the company(s margin of safety is also greater. 8otice that the margin of safety increases from 59= /// to 5.D6 /// or from =.6H to ..H. Thus the addition of the new product shifts the company much further from its brea!"even point even though the brea!"even point is higher.
Pro$lem 6-24 (2/ minutes) 0. (0) (.) (2) (1) (6) (9) (D) (=) (<) ?ollars 7olume of output expressed in units H of capacity sales or some other measure Total expense line 7ariable expense area Fixed expense area %rea!"even point Foss area >rofit area )ales line
Pro$lem 6-24 (continued) .. a. Fine 24 Fine <4 %rea!"even point4 b. Fine 24 Fine <4 %rea!"even point4 c. Fine 24 Fine <4 %rea!"even point4 d. Fine 24 Fine <4 %rea!"even point4 e. Fine 24 Fine <4 %rea!"even point4 f. Fine 24 Fine <4 %rea!"even point4 g. Fine 24 Fine <4 %rea!"even point4 h. Fine 24 Fine <4 %rea!"even point4 Eemain unchanged. -ave a steeper slope. ?ecrease. -ave a flatter slope. Eemain unchanged. ?ecrease. )hift upward. Eemain unchanged. Increase. Eemain unchanged. Eemain unchanged. Eemain unchanged. )hift downward and have a steeper slope. Eemain unchanged. >robably change but the direction is uncertain. -ave a steeper slope. -ave a steeper slope. Eemain unchanged in terms of unitsO increase in terms of total dollars of sales. )hift upward. Eemain unchanged. Increase. )hift upward and have a flatter slope. Eemain unchanged. >robably change but the direction is uncertain.
Pro$lem 6-25 (9/ minutes) 0. Carbex Inc. Income )tatement For #pril Standard Delu5e Total Amount / Amount / Amount / 5.1/ // 506/ // 52</ // / 0// / 0// / 0//./ 9/ /// .6 29 /// 06 <9 /// 1/ 5011 // / 9/ 9/ /// .. 6/ / =. 6/ / 5 9D 6// 1/ 0./ /// 6= 6/ 06 / 0D= 6/ 66 / 5.00 6/ 16 / 0/6 /// .0 D// 92 // / 0=< D/ / 5M .0 =// 2/.= 06./ 16.= 61..
)ales......................... 7ariable expenses4 >roduction.............. )ales commission... Total variable expenses................ Contribution margin.. Fixed expenses4 #dvertising............. ?epreciation........... #dministrative........ Total fixed expenses. 8et operating income...................
Carbex Inc. Income )tatement For May Standard Delu5e Amount / Amount / )ales........................... 59/ /// 0// 52D6 /// 0// 7ariable expenses4 >roduction............... 06 /// .6 06/ /// 1/ )ales commission.... < /// 06 69 .6/ 06 Total variable expenses .1 /// 1/ ./9 .6/ 66 Contribution margin... 529 /// 9/ 509= D6/ 16
Total Amount / 5126 /// 0//./ 096 96 .2/ ./1 /// .6/ .6/ D6/ 2D.< 06./ 6..< 1D.0
Fixed expenses4 #dvertising.............. ?epreciation............ #dministrative......... Total fixed expenses... 8et operating income
0/6 .0 92 0=< 5M06
/// D// /// D// /6/
Pro$lem 6-25 (continued) .. The sales mix has shifted over the last year from )tandard sets to ?eluxe sets. This shift has caused a decrease in the company(s overall CM ratio from 61..H in #pril to 1D.0H in May. For this reason even though total sales (in dollars) are greater net operating income is lower. 2. )ales commissions could be based on contribution margin rather than on sales price. # flat rate on total contribution margin as the text suggests might encourage the salespersons to emphasi&e the product with the greatest contribution to the profits of the firm. 1. a. The brea!"even in dollar sales can be computed as follows4 ?ollar sales to @ Fixed expenses @ 50=< D// @ 526/ /// brea! even CM ratio /.61. b. The brea!"even point is higher with May(s sales mix than with #pril(s. This is because the company(s overall CM ratio has gone down i.e. the sales mix has shifted from the more profitable to the less profitable units.
Pro$lem 6-26 (16 minutes) 0. )ales (06 /// units ; 5D/ per unit).............. 7ariable expenses (06 /// units ; 51/ per unit)............................................................ Contribution margin...................................... Fixed expenses............................................. 8et operating loss......................................... . . Fixed expenses %rea!"even point @ in unit sales Anit contribution margin @ 561/ /// @0= /// units 52/ per unit 50 /6/ // / 9// /// 16/ /// 61/ /// (5 </ /// )
0= /// units ; 5D/ per unit @ 50 .9/ /// to brea! even 2. )ee the next page. 1. #t a selling price of 56= per unit the contribution margin is 50= per unit. Therefore4 Fixed expenses Anit sales to @ brea! even Anit contribution margin @ 561/ /// @ 2/ /// units 50=
2/ /// units ;56= per unit @ 50 D1/ /// to brea! even
This brea!"even point is different from the brea!"even point in part (.) because of the change in selling price. *ith the change in selling price the unit contribution margin drops from 52/ to 50= resulting in an increase in the brea!"even point.
Pro$lem 6-26 (continued) 2. Unit 6aria7l Unit e Unit Selling 85 ens Contri7utio Price e n !argin 5D/ 51/ 52/ 59= 51/ 5.= 599 51/ 5.9 591 51/ 5.1 59. 51/ 5.. 59/ 51/ 5./ 56= 51/ 50= 569 51/ 509
6olume 9Units: 06 /// ./ /// .6 /// 2/ /// 26 /// 1/ /// 16 /// 6/ ///
Total Contri7utio n !argin 516/ /// 569/ /// 596/ /// 5D./ /// 5DD/ /// 5=// /// 5=0/ /// 5=// ///
Net -i5ed o erating 85 enses income 561/ /// (5</ ///) 561/ /// 5./ /// 561/ /// 500/ /// 561/ /// 50=/ /// 561/ /// 5.2/ /// 561/ /// 5.9/ /// 561/ /// 5.D/ /// 561/ /// 5.9/ ///
The maximum profit is 5.D/ ///. This level of profit can be earned by selling 16 /// units at a price of 56= each.
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Pro$lem 6-27 (D6 minutes) 0. a. )elling price................. 5.6 0//H 7ariable expenses....... 06 9/H Contribution margin.. . . 50/ 1/H >rofit @ 5/ @ 50/B @ B@ B@ Anit CM ; B C Fixed expenses 50/ ; B C 5.0/ /// 5.0/ /// 5.0/ /// G 50/ .0 /// balls
#lternative solution4 Fixed expenses Anit sales to @ brea! even Anit contribution margin @ 5.0/ /// @ .0 /// balls 50/
b. The degree of operating leverage is4 Contribution margin ?egree of @ operating leverage 8et operating income @ .. The new CM ratio will be4 )elling price................. 7ariable expenses....... Contribution margin.... >rofit @ 5/ @ 5DB @ B@ B@ 5.6 0//H 0= D.H 5 D .=H 52// /// @ 2.22 (rounded) 5</ ///
The new brea!"even point will be4 Anit CM ; B C Fixed expenses 5D ; B C 5.0/ /// 5.0/ /// 5.0/ /// G 5D 2/ /// balls
Pro$lem 6-27 (continued) #lternative solution4 Fixed expenses Anit sales to @ brea! even Anit contribution margin @ 2. >rofit @ 5</ // /@ 5DB @ B@ B@ 5.0/ /// @ 2/ /// balls 5D
Anit CM ; B C Fixed expenses 5D ; B C 5.0/ /// 5</ /// I 5.0/ /// 52// /// G 5D 1. =6D balls (rounded)
#lternative solution4 Anit sales to attain @ Target profit I Fixed expenses target profit Anit contribution margin @ 5</ /// I 5.0/ /// @ 1. =6D balls 5D
Thus sales will have to increase by 0. =6D balls (1. =6D balls less 2/ /// balls currently being sold) to earn the same amount of net operating income as last year. The computations above and in part (.) show the dramatic effect that increases in variable costs can have on an organi&ation. The effects on 8orthwood Company are summari&ed below4 85 ecte Present d Combination margin ratio........................... 1/H .=H %rea!"even point (in balls).......................... .0 /// 2/ /// )ales (in balls) needed to earn a 5</ /// profit......................................................... 2/ /// 1. =6D 8ote that if variable costs do increase next year then the company will Kust brea! even if it sells the same number of balls (2/ ///) as it did last year.
Pro$lem 6-27 (continued) 1. The contribution margin ratio last year was 1/H. If we let > e$ual the new selling price then4 > @ 50= I /.1/> /.9/> @ 50= > @ 50= G /.9/ > @ 52/ To verify4 )elling price................ 52/ 0//H 7ariable expenses....... 0= 9/H Contribution margin.... 50. 1/H Therefore to maintain a 1/H CM ratio a 52 increase in variable costs would re$uire a 56 increase in the selling price. 6. The new CM ratio would be4 )elling price.................... 7ariable expenses........... Contribution margin........ J506 N (506 ; 1/H) @ 5< The new brea!"even point would be4 >rofit @ 5/ @ 509B @ B@ B@ Anit CM ; B C Fixed expenses 509 ; B C 51./ /// 51./ /// 51./ /// G 509 .9 .6/ balls 5.6 0//H <J 29H 509 91H
#lternative solution4 Fixed expenses Anit sales to @ brea! even Anit contribution margin @ 51./ /// @ .9 .6/ balls 509
#lthough this new brea!"even is greater than the company(s present brea!"even of .0 /// balls Qsee >art (0) aboveR it is less than the brea!"even point will be if the company does not
automate and variable labor costs rise next year Qsee >art (.) aboveR.
Pro$lem 6-27 (continued) 9. a. >rofit @ 5</ // /@ 509B @ B@ B@ Anit CM ; B C Fixed expenses 509 ; B C 51./ /// 5</ /// I 51./ /// 560/ /// G 509 20 =D6 balls
#lternative solution4 Anit sales to attain @ Target profit I Fixed expenses target profit Anit contribution margin @ 5</ /// I 51./ /// @ 20 =D6 balls 509 Thus the company will have to sell 0 =D6 more balls (20 =D6 N 2/ /// @ 0 =D6) than now being sold to earn a profit of 5</ /// per year. -owever this is still less than the 1. =6D balls that would have to be sold to earn a 5</ /// profit if the plant is not automated and variable labor costs rise next year Qsee >art (2) aboveR. b. The contribution income statement would be4 )ales (2/ /// balls ; 5.6 per ball)............. 5D6/ /// 7ariable expenses (2/ /// balls ; 5< per ball).......................................................... .D/ /// Contribution margin.................................... 1=/ /// Fixed expenses........................................... 1./ /// 8et operating income................................. 5M9/ /// Contribution margin ?egree of @ operating leverage 8et operating income @ 51=/ /// @= 59/ ///
Pro$lem 6-27 (continued) c. This problem illustrates the difficulty faced by some companies. *hen variable labor costs increase it is often difficult to pass these cost increases along to customers in the form of higher prices. Thus companies are forced to automate resulting in higher operating leverage often a higher brea!"even point and greater ris! for the company. There is no clear answer as to whether one should have been in favor of constructing the new plant.
Pro$lem 6-28 (9/ minutes) 0. >rofit @ Anit CM ; B C Fixed expenses 5/ @ (51/ C 509) ; B C 59/ /// 5/ @ (5.1) ; B C 59/ /// 5.1B @ 59/ /// B @ 59/ /// G 5.1 @ . 6// pairs or at 51/ per pair 50// /// in B sales #lternative solution4 Anit sales to @ Fixed expenses @ 59/ /// @ . 6// pairs brea! even CM per unit 5.1.// ?ollar sales to @ Fixed expenses @ 59/ /// @ 50// /// brea! even CM ratio /.9// .. )ee the graphs at the end of this solution. 2. >rofit @ 50= // /@ 5.1B @ B@ B@ Anit CM ; B C Fixed expenses 5.1 ; B C 59/ /// 50= /// I 59/ /// 5D= /// G 5.1 2 .6/ pairs
#lternative solution4 Anit sales to attain @ Target profit I Fixed expenses target profit Anit contribution margin @ 50= /// I 59/ /// @ 2 .6/ pairs 5.1.//
1. Incremental contribution margin4 5.6 /// increased sales ; 9/H CM ratio...................................................... Incremental fixed salary cost.................. Increased net income..............................
506 /// = /// 5 D ///
:es the position should be converted to a full"time basis.
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Pro$lem 6-28 (continued) 6 a . . Contribution margin 5D. /// ?egree of @ @ @9 operating leverage 8et operating income 50. ///
b. 9.// ; 6/H sales increase @ 2//H increase in net operating income. Thus net operating income next year would be4 50. /// I (50. /// ; 2//H) @ 51= ///. .. Cost"volume"profit graph4
5.// 50=/ 509/ 501/
Total )ales
Total )ales (///s)
50./ 50// 5=/ 59/ 51/ 5./ 5/ /
%rea!"even point4 . 6// pairs of sandals or 50// /// total sales
Total 3xpense s
Total Fixed 3xpense s
6//
0 /// 0 6// . /// . 6// 2 /// 2 6// 1 /// 1 6// 6 ///
8umber of >airs of )andals )old
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Pro$lem 6-28 (continued) >rofit graph4
>rofit ,raph
526 /// 52/ /// 5.6 /// 5./ /// 506 /// 50/ /// 56 /// 5/ "56 ///
%rea!"even point4 . 6// sandals
>rofit
"50/ /// "506 /// "5./ /// "5.6 /// "52/ /// "526 /// "51/ /// "516 /// "56/ /// "566 /// "59/ /// / 6// 0 /// 0 6// . /// . 6// 2 /// 2 6// 1 ///
)ales 7olume in Anits
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Pro$lem 6-29 (9/ minutes) 0. The income statements would be4 Present Per Amount Unit 516/ /// 52/ 206 /// .0 026 /// 5 < </ ///
)ales....................... 7ariable expenses... Contribution margin Fixed expenses....... 8et operating income................. 5M16 ///
/ 0//H D/H 2/H
Pro osed Per Amount Unit )ales....................... 516/ /// 52/ 7ariable expensesJ. 0=/ /// 0. Contribution margin .D/ /// 50= Fixed expenses....... ..6 /// 8et operating income................. 5M16 /// J5.0 N 5< @ 50. .. a. ?egree of operating leverage4 >resent4
/ 0//H 1/H 9/H
Contribution margin ?egree of @ operating leverage 8et operating income @ >roposed4 Contribution margin ?egree of @ operating leverage 8et operating income @ 5.D/ /// @9 516 /// 5026 /// @2 516 ///
Pro$lem 6-29 (continued) b. ?ollar sales to brea! even4 >resent4 ?ollar sales to @ Fixed expenses brea! even CM ratio @ >roposed4 ?ollar sales to @ Fixed expenses brea! even CM ratio @ c. Margin of safety4 >resent4 Margin of safety @ #ctual sales " %rea!"even sales @ 516/ /// " 52// /// @ 506/ /// Margin of safety @ Margin of safety in dollars percentage #ctual sales @ >roposed4 Margin of safety @ #ctual sales " %rea!"even sales @ 516/ /// " 52D6 /// @ 5D6 /// Margin of safety @ Margin of safety in dollars percentage #ctual sales @ 5D6 /// @ 09 .L2H 516/ /// 506/ /// @ 22 0L2H 516/ /// 5..6 /// @ 52D6 /// /.9/ 5</ /// @ 52// /// /.2/
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Pro$lem 6-29 (continued) 2. The maKor factor would be the sensitivity of the company(s operations to cyclical movements in the economy. %ecause the new e$uipment will increase the CM ratio in years of strong economic activity the company will be better off with the new e$uipment. -owever in economic recession the company will be worse off with the new e$uipment. The fixed costs of the new e$uipment will cause losses to be deeper and sustained more $uic!ly than at present. Thus management must decide whether the potential for greater profits in good years is worth the ris! of deeper losses in bad years. 1. 8o information is given in the problem concerning the new variable expenses or the new contribution margin ratio. %oth of these items must be determined before the new brea!"even point can be computed. The computations are4 8ew variable expenses4 @ ()ales C 7ariable expenses) C Fixed >rofit expenses @ (56=6 ///J C 7ariable expenses) C 561 ///JJ 50=/ /// 7ariable expenses @ 56=6 /// C 50=/ /// C 561 /// @ 5260 /// J8ew level of sales4 516/ /// ; 0.2/ @ 56=6 /// JJ8ew level of net operating income4 516 /// ; 0.. @ 561 /// 8ew CM ratio4 56=6 // )ales............................. / 0//H 260 // 7ariable expenses......... / 9/H 5.21 // Contribution margin...... / 1/H *ith the above data the new brea!"even point can be computed4
?ollar sales to @ Fixed expenses @ 50=/ /// @ 516/ /// brea! even CM ratio /.1/
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Pro$lem 6-29 (continued) The greatest ris! is that the increases in sales and net operating income predicted by the mar!eting manager will not happen and that sales will remain at their present level. 8ote that the present level of sales is 516/ /// which is e$ual to the brea!"even level of sales under the new mar!eting method. Thus if the new mar!eting strategy is adopted and sales remain unchanged profits will drop from the current level of 516 /// per month to &ero. It would be a good idea to compare the new mar!eting strategy to the current situation more directly. *hat level of sales would be needed under the new method to generate at least the 516 /// in profits the company is currently earning each monthS The computations are4 ?ollar sales to @ Target profit I Fixed expenses attain target profit CM ratio @ 516 /// I 50=/ /// /.1/
@ 569. 6// in sales each month Thus sales would have to increase by at least .6H (569. 6// is .6H higher than 516/ ///) in order to ma!e the company better off with the new mar!eting strategy than with the current situation. This appears to be extremely ris!y.
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Pro$lem 6-3# (2/ minutes) 0. The contribution margin per sweatshirt would be4 )elling price........................................ 7ariable expenses4 >urchase cost of the sweatshirts...... Commission to the student salespersons.................................. Contribution margin............................ 502.6/ 5=.// 0.6/ <.6/ 5M1.//
)ince there are no fixed costs the number of unit sales needed to yield the desired 50 .// in profits can be obtained by dividing the target 50 .// profit by the unit contribution margin4 Target profit 50 .// @ @ 2// sweatshirts Anit contribution margin 51.// 2// sweatshirts ;502.6/ per sweatshirt @ 51 /6/ in total sales .. )ince an order has been placed there is now a TfixedU cost associated with the purchase price of the sweatshirts (i.e. the sweatshirts can(t be returned). For example an order of D6 sweatshirts re$uires a TfixedU cost (investment) of 59// (@D6 sweatshirts ; 5=.// per sweatshirt). The variable cost drops to only 50.6/ per sweatshirt and the new contribution margin per sweatshirt becomes4 )elling price..................................... 7ariable expenses (commissions only)............................................. Contribution margin........................ 502.6/ 0.6/ 50..//
)ince the TfixedU cost of 59// must be recovered before Mr. -ooper shows any profit the brea!"even computation would be4 Fixed expenses Anit sales to @ brea! even Anit contribution margin @ 59// @ 6/ sweatshirts 50..//
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6/ sweatshirts ;502.6/ per sweatshirt @ 59D6 in total sales If a $uantity other than D6 sweatshirts were ordered the answer would change accordingly.
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Pro$lem 6-31 (16 minutes) 0. The contribution margin per unit on the first 09 /// units is4 )ales price....................... 7ariable expenses........... Contribution margin........ Per Unit 52.// 0..6 50.D6
The contribution margin per unit on anything over 09 /// units is4 )ales price....................... 7ariable expenses........... Contribution margin........ Per Unit 52.// 0.1/ 50.9/
Thus for the first 09 /// units sold the total amount of contribution margin generated would be4 09 /// units ; 50.D6 per unit @ 5.= /// )ince the fixed costs on the first 09 /// units total 526 /// the 5.= /// contribution margin above is not enough to permit the company to brea! even. Therefore in order to brea! even more than 09 /// units would have to be sold. The fixed costs that will have to be covered by the additional sales are4 Fixed costs on the first 09 /// units................ Fess contribution margin from the first 09 /// units.............................................................. Eemaining unrecovered fixed costs................. #dd monthly rental cost of the additional space needed to produce more than 09 /// units.............................................................. Total fixed costs to be covered by remaining sales............................................................. 526 /// .= /// D /// 0 /// 5 = ///
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Pro$lem 6-31 (continued) The additional sales of units re$uired to cover these fixed costs would be4 Total remaining fixed costs 5= /// @ @ 6 /// units Anit contribution margin on added units 50.9/ Therefore a total of .0 /// units (09 /// I 6 ///) must be sold in order for the company to brea! even. This number of units would e$ual total sales of4 .0 /// units ; 52.// per unit @ 592 /// in total sales Target profit 50. /// @ @ D 6// units Anit contribution margin 50.9/ Thus the company must sell D 6// units above the brea!"even point to earn a profit of 50. /// each month. These units added to the .0 /// units re$uired to brea! even e$ual total sales of .= 6// units each month to reach the target profit. 2. If a bonus of 5/.0/ per unit is paid for each unit sold in excess of the brea!"even point then the contribution margin on these units would drop from 50.9/ to 50.6/ per unit. The desired monthly profit would be4 .6H ; (526 /// I 50 ///) @ 5< /// Thus Target profit 5< /// @ @ 9 /// units Anit contribution margin 50.6/ Therefore the company must sell 9 /// units above the brea!" even point to earn a profit of 5< /// each month. These units added to the .0 /// units re$uired to brea! even would e$ual total sales of .D /// units each month.
. .
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Case 6-32 (9/ minutes) 8ote4 This is a problem that will challenge the very best students( conceptual and analytical s!ills. -owever wor!ing through this case will yield substantial dividends in terms of a much deeper understanding of critical management accounting concepts. 0. The overall brea!"even sales can be determined using the CM ratio. 6elcro !etal N.lon Total 5096 // 521/ // )ales......................... / 52// /// / 5=/6 /// 7ariable expenses..... 0.6 /// 01/ /// 0// /// 296 /// 5.1/ // Contribution margin. . 5 1/ /// 509/ /// / 11/ /// Fixed expenses......... 1// /// 8et operating income 5 1/ /// CM ratio @ Contribution margin 511/ /// @ @ /.6199 )ales 5=/6 ///
?ollar sales to @ Fixed expenses @ 51// /// @ 5D2. /// (rounded) brea! even CM ratio /.6199 .. The issue is what to do with the common fixed cost when computing the brea!"evens for the individual products. The correct approach is to ignore the common fixed costs. If the common fixed costs are included in the computations the brea!"even points will be overstated for individual products and managers may drop products that in fact are profitable. a. The brea!"even points for each product can be computed using the contribution margin approach as follows4 Anit selling price............................. 7ariable cost per unit..................... Anit contribution margin (a)........... >roduct fixed expenses (b)............. Anit sales to brea! even (b) G (a)...
)olutions Manual Chapter 9
6elcro !etal N.lon 50.96 50.6/ 5/.=6 0..6 /.D/ /..6 5/.1/ 5/.=/ 5/.9/ 5./ // 5=/ // 59/ // / / / 6/ /// 0// // 0// //
=.
Case 6-32 (continued) b. If the company were to sell exactly the brea!"even $uantities computed above the company would lose 5.1/ ///Vthe amount of the common fixed cost. This can be verified as follows4 6elcro !etal N.lon Total Anit sales............... 6/ /// 0// /// 0// /// 506/ // )ales...................... 5=. 6// / 5=6 /// 520D 6// 7ariable expenses. . 9. 6// D/ /// .6 /// 06D 6// Contribution margin................. 5./ /// 5 =/ /// 59/ /// 09/ /// Fixed expenses...... 1// /// 8et operating income................. (5.1/ ///) #t this point many students conclude that something is wrong with their answer to part (a) because a result in which the company loses money operating at the brea!"evens for the individual products does not seem to ma!e sense. They also worry that managers may be lulled into a false sense of security if they are given the brea!"evens computed in part (a). Total sales at the individual product brea!"evens is only 520D 6// whereas the total sales at the overall brea!"even computed in part (0) is 5D2. ///. Many students (and managers for that matter) attempt to resolve this apparent paradox by allocating the common fixed costs among the products prior to computing the brea!"evens for individual products. #ny of a number of allocation bases could be used for this purposeVsales variable expenses product"specific fixed expenses contribution margins etc. (*e usually ta!e a tally of how many students allocated the common fixed costs using each possible allocation base before proceeding.) For example the common fixed costs are allocated on the next page based on sales.
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Case 6-32 (continued) #llocation of common fixed expenses on the basis of sales revenue4 6elcro !etal 5096 // )ales............................... / 52// /// >ercentage of total sales. ./.1<DH 2D..9DH #llocated common fixed expenseJ...................... 51< 0<2 5 =< 110 >roduct fixed expenses. . . ./ /// =/ /// #llocated common and product fixed expenses (a)................................. 59< 0<2 509< 110 Anit contribution margin (b)................................. 5/.1/ 5/.=/ T%rea!"evenU point in units sold (a) G (b)........ 0D. <=2 .00 =/0 N.lon Total 521/ // 5=/6 // / / 1...29H 0//./H 50/0 29 5.1/ // 9 / 9/ /// 09/ /// 5090 29 51// // 9 / 5/.9/ .9= <12
JTotal common fixed expense ; percentage of total sales If the company sells 0D. <=2 units of the 7elcro product .00 =/0 units of the Metal product and .9= <12 units of the 8ylon product the company will indeed brea! even overall. -owever the apparent brea!"evens for two of the products are higher than their normal annual sales. 8ormal annual sales volume............................. T%rea!"evenU annual sales.. T)trategicU decision............ 6elcro 0// /// 0D. <=2 drop !etal .// /// .00 =/0 drop N.lon 1// /// .9= <12 retain
It would be natural for managers to interpret a brea!"even for a product as the level of sales below which the company would be financially better off dropping the product. Therefore we should not be surprised if managers based on the above erroneous brea!"even calculation would decide to drop the 7elcro and Metal products and concentrate on the company(s Tcore competency U which appears to be the 8ylon product.
Case 6-32 (continued) If the managers drop the 7elcro and Metal products the company would face a loss of 59/ /// computed as follows4 6elcro )ales......................... dropped 7ariable expenses..... Contribution margin. . Fixed expensesJ........ 8et operating income N.lon Total 521/ // dropped / 521/ /// 0// /// 0// /// 5.1/ // / .1/ /// 2// /// (5 9/ ///) !etal
J %y dropping the two products the company reduces its fixed expenses by only 50// /// (@5./ /// I 5=/ ///). Therefore the total fixed expenses are 52// /// rather than 51// ///. %y dropping the two products the company would go from ma!ing a profit of 51/ /// to suffering a loss of 59/ ///. The reason is that the two dropped products were contributing 50// /// toward covering common fixed expenses and toward profits. This can be verified by loo!ing at a segmented income statement li!e the one that will be introduced in a later chapter. 6elcro !etal N.lon Total 5096 // 52// // 521/ // / / / 5=/6 /// 0.6 /// 01/ /// 0// /// 296 /// 1/ /// 09/ /// .1/ /// 11/ /// ./ /// =/ /// 9/ /// 09/ /// 50=/ // 5 ./ /// 5 =/ /// / .=/ /// .1/ /// 5 1/ /// 50// ///
)ales.............................. 7ariable expenses.......... Contribution margin....... >roduct fixed expenses. . >roduct segment margin Common fixed expenses 8et operating income.....
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Case 6-33 (D6 minutes) %efore proceeding with the solution it is helpful first to restructure the data into contribution format for each of the three alternatives. (The data in the statements below are in thousands.) $;/ Commission )ales....................................... 7ariable expenses4 Manufacturing...................... Commissions (06H ./H D.6H)................................. Total variable expenses........... Contribution margin................ Fixed expenses4 Manufacturing overhead....... Mar!eting............................. #dministrative...................... Interest................................. Total fixed expenses................ Income before income taxes... Income taxes (2/H)................ 8et income.............................
=D 3dition
%+/ Commission 509 /// 0//H D .// 2 .//
509 /// D .// . 1// < 9// 9 1// . 21/ 0./ 0 =// 61/ 1 =// 0 9// 1=/ 5 0 0./
0//H
Own Sales -orce 509 ///. / 0//./H D .//./ 0 .//. / = 1//. / D 9//. / . 21/./ . 6././ J 0 D.6./ JJ 61/./ D 0.6. / 1D6./ 01..6 5M 22..6
Managerial #ccounting 02th
9/H 1/H
0/ 1// 6 9// . 21/ 0./ 0 =// 61/ 1 =// =// .1/ 5M 69/
96H 26H
6..6H 1D.6H
J50./ /// I 5. 1// /// @ 5. 6./ /// JJ50 =// /// N 5D6 /// @ 50 D.6 ///
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Case 6-33 (continued) 0. *hen the income before taxes is &ero income taxes will also be &ero and net income will be &ero. Therefore the brea!"even calculations can be based on the income before taxes. a. %rea!"even point in dollar sales if the commission remains 06H4 ?ollar sales to @ Fixed expenses @ 51 =// /// @ 50. /// /// brea! even CM ratio /.1/ b. %rea!"even point in dollar sales if the commission increases to ./H4 ?ollar sales to @ Fixed expenses @ 51 =// /// @ 502 D01 .=9 brea! even CM ratio /.26 c. %rea!"even point in dollar sales if the company employs its own sales force4 ?ollar sales to @ Fixed expenses @ 5D 0.6 /// @ 506 /// /// brea! even CM ratio /.1D6 .. In order to generate a 50 0./ /// net income the company must generate 50 9// /// in income before taxes. Therefore ?ollar sales to @ Target income before taxes I Fixed expenses attain target CM ratio @ @ 50 9// /// I 51 =// /// /.26 59 1// /// @ 50= .=6 D01 /.26
2. To determine the volume of sales at which net income would be e$ual under either the ./H commission plan or the company sales force plan we find the volume of sales where costs before income taxes under the two plans are e$ual. )ee the next page for the solution.
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Case 6-33 (continued) W @ Total sales revenue /.96W I 51 =// /// @ /.6.6W I 5D 0.6 /// /.0.6W @ 5. 2.6 /// W @ 5. 2.6 /// G /.0.6 W @ 50= 9// /// Thus at a sales level of 50= 9// /// either plan would yield the same income before taxes and net income. %elow this sales level the commission plan would yield the largest net incomeO above this sales level the sales force plan would yield the largest net income. 1. a. b. and c. %+/ Own Commissi Sales on -orce Contribution margin (>art 0) 56 9// // 5D 9// // (x)...................................... 59 1// /// / / Income before taxes (>art 0) (y)...................................... 50 9// /// 5=// /// 51D6 /// ?egree of operating leverage4 (x) G (y).............................. 1 D 09 $;/ Commissio n
6. *e would continue to use the sales agents for at least one more year and possibly for two more years. The reasons are as follows4 (irst) use of the sales agents would have a less dramatic effect on net income. Se"on* use of the sales agents for at least one more year would give the company more time to hire competent people and get the sales group organi&ed. +hir*) the sales force plan doesn(t become more desirable than the use of sales agents until the company reaches sales of 50= 9// /// a year. This level probably won(t be reached for at least one more year and possibly two years.
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(ourth) the sales force plan will be highly leveraged since it will increase fixed costs (and decrease variable costs). 'ne or two years from now when sales have reached the 50= 9// /// level the company can benefit greatly from this leverage. For the moment profits will be greater and ris!s will be less by staying with the agents even at the higher ./H commission rate.
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Resear"h an* ,ppli"ation 6-34 0. The income statement on page 6/ is prepared using an absorption format. The income statement on page 22 is prepared using a contribution format. The annual report says that the contribution format income statement shown on page 22 is used for internal reporting purposesO nonetheless %enetton has chosen to include it in the annual report. The contribution format income statement treats all cost of sales as variable costs. The selling general and administrative expenses shown on the absorption income statement have been bro!en down into variable and fixed components in the contribution format income statement. It appears the ?istribution and Transport expenses and the )ales Commissions have been reclassified as variable selling costs on the contribution format income statement. The sum of these two expenses according to the absorption income statement on page 6/ is X0/2 690 and X001 2/< in .//1 and .//2 respectively. If these numbers are rounded to the nearest thousand they agree with the variable selling costs shown in the contribution format income statements on page 22. .. The cost of sales is included in the computation of contribution margin because the %enetton ,roup primarily designs mar!ets and sells apparel. The manufacturing of the products is outsourced to various suppliers. *hile %enetton(s cost of sales may include some fixed expenses the overwhelming maKority of the expenses are variable as one would expect for a merchandising company thus the cost of sales is included in the calculation of contribution margin. 2. The brea!"even computations are as follows (see page 22 of annual report)4 (in millionsO figures are rounded) Total fixed expenses............... Contribution margin ratio........ %rea!even.............................. %++& X191 G /.2D1 X0 .10 %++' X129 G /.2=D X0 0.D
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The brea!"even point in .//1 is lower than in .//2 because %enetton(s fixed expenses in .//1 are lower than in .//2 and its contribution margin ratio in .//1 is higher than in .//2.
Resear"h an* ,ppli"ation 6-34 (continued) 1. The target profit calculation is as follows4 (in millionsO figures are rounded) Target profit I Fixed expenses......... Contribution margin ratio.................. )ales needed to achieve target profit................................................. %++' XD29 G /.2=D X0 </.
6. The margin of safety calculations are as follows4 (in millionsO figures are rounded) #ctual sales............................ %++& %++'
X0 =6 X0 9= < 9 %rea!"even sales.................... 0 .10 0 0. D Margin of safety..................... X 90= X 66 < The margin of safety has declined because the drop in sales from .//2 to .//1 (X0D2) exceeds the decrease in brea!even sales from .//2 to .//1 (X001). 9. The degree of operating leverage is calculated as follows4 (in millionsO figures are rounded) Contribution margin............................ Income from operations...................... ?egree of operating leverage (rounded)............................................ %++' X962 G X.0D 2
# 9H increase in sales would result in income from operations of4 (in millionsO figures are rounded) Eevised sales (X0 9=9 ;0./9)................. Contribution margin ratio........................ Contribution margin................................ Fixed general and administrative expenses................................................ %++' X0 D= D /.2=D 9<. 129
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Income from operations..........................
X.69
The degree of operating leverage can be used to $uic!ly determine that a 9H increase in sales translates into an 0=H increase in income from operations (9H ; 2 @ 0=H). Eather than preparing a revised contribution format income statement to ascertain the new income from operations the computation could be performed as follows4
Resear"h an* ,ppli"ation 6-34 (continued) (in millionsO figures are rounded) #ctual sales.................................................... >ercentage increase in income from operations...................................................... >roKected income from operations................. %++' X.0D 0.0= X.69
D. The income from operations in the first scenario would be computed as follows4 (in millionsO figures are rounded) )ales (0 9=9 ; 0./2)................................. Contribution margin ratio.......................... Contribution margin.................................. Fixed general and administrative expenses.................................................. Income from operations............................ %++' X0 D2 D /.2=D 9D. 119 X..9
The second scenario is more complicated because students need to brea! the variable selling costs into its two componentsV?istribution and Transport and )ales Commissions. Asing the absorption income statement on page 6/ students can determine that )ales Commissions are about 1.1H of sales (XD2 6D2 G X0 9=9 260). If )ales Commissions are raised to 9H this is a 0.9H increase in the rate. This 0.9H should be deducted from the contribution margin ratio as shown below4 (in millionsO figures are rounded) )ales (0 9=9 ; 0./6)................................. Contribution margin ratio (/.2=D C /./09) Contribution margin.................................. Fixed general and administrative expenses.................................................. Income from operations............................ %++' X0 DD / /.2D0 96D 119 X.00
The first scenario is preferable because it increases income from operations by X< million (X..9CX.0D) whereas the second scenario decreases income from operations by X9
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million (X.0D C X.00).
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Resear"h an* ,ppli"ation 6-34 (continued) =. The income from operations using the revised product mix is calculated as follows (the contribution margin ratios for each sector are given on pages 29 and 2D of the annual report)4 Casu (in millions) al )ales........................... X0 66 1 CM ratio...................... /.10= CM.............................. X91<. 9 Fixed expenses........... Income from operations................. S ortswear < 8=ui ment X16 /../= X<.1 !anufacturin g < Other X=D /./=< XD.D
Total X0 9=9. / J/.2<6 999.D 129./ X.2/.D
J2<.6H is the weighted average contribution margin ratio. 8otice it is higher than the 2=.DH shown on page 22 of the annual report. The income from operations is higher under this scenario because the product mix has shifted towards the sector with the highest contribution margin ratioVthe Casual sector.
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Chapter 6

8ote4 This is the company(s brea!"even point.

!er"ise 6-2 (continued)

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569 D// 61 /// . D// 6 /// (5 . 2//)

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expense........................................ Change in net operating income.....

566 /// 61 /// 5 0 ///

>rofit @ 5/ @ /../ ; )ales @ )ales @ )ales @

5.1 /// @ 5=/ /// 2/H

!er"ise 6-11 (./ minutes) Total Per Unit

In sales dollars4 ./ /// units ; 51/ per unit @ 5=// ///

In units4 5=// /// G 51/ per unit @ ./ /// units

In units4 516/ /// G 51/ per unit @00 .6/ units

5 M= /// J Case #'

J= /// stoves ; 0..6 @ 0/ /// stoves

!er"ise 6-17 (continued) 2. Cost"volume"profit graph4

Total )ales Total 3xpenses

%11< .=/ @ %=91 /// /.6./

529/ /// .09 /// 011 /// 06/ /// (5 9 ///)

Pro$lem 6-21 (continued) .. Cost"volume"profit graph4

%rea!"even point4 0. 6// pairs of shoes or 52D6 /// total sales

Total )ales Total 3xpense s

Total )ales (///s)

Total Fixed 3xpense s

8umber of >airs of )hoes )old

516/ /// .D0 .6/ 0D= D6/

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Fixed expenses.......................................... 8et operating income................................

06/ /// 5 .= D6/

5.1 /// 09 /// 5 = ///

Managerial #ccounting 02th 3dition

)ales........................ 7ariable expenses.... Contribution margin.

0=/ /// 9/H 50./ // / 1/H

0/6 .0 92 0=< 5M06

/// D// /// D// /6/

2/ /// units ;56= per unit @ 50 D1/ /// to brea! even

506 /// = /// 5 D ///

:es the position should be converted to a full"time basis.

Total )ales (///s)

50./ 50// 5=/ 59/ 51/ 5./ 5/ /

%rea!"even point4 . 6// pairs of sandals or 50// /// total sales

Total Fixed 3xpense s

0 /// 0 6// . /// . 6// 2 /// 2 6// 1 /// 1 6// 6 ///

8umber of >airs of )andals )old

Pro$lem 6-28 (continued) >rofit graph4

%rea!"even point4 . 6// sandals

)ales 7olume in Anits

/ 0//H D/H 2/H

/ 0//H 1/H 9/H

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%+/ Commission 509 /// 0//H D .// 2 .//

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Income from operations..........................

million (X.0D C X.00).

Total X0 9=9. / J/.2<6 999.D 129./ X.2/.D

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