Chapter 4

Cost-Volume-Profit Relationships

Problem 4-18
1. The CM ratio is 60%:
Selling price ...................... $30 100%
Variable expenses ............. 12 40%
Contribution margin........... $18 60%

2. Break-even point in Fixed expenses

=
total sales dollars CM ratio
$270,000
= =$450,000 sales
0.60

3. $60,000 increased sales 60% CM ratio = $36,000 increased

contribution margin. Since fixed costs will not change, operating income
should also increase by $36,000.

4 a. Contribution margin
Degree of operating leverage =
Operating income

$360,000
= =4
$90,000

b. 4 16% = 64% increase in operating income. In dollars, this

increase would be 64% $90,000 = $57,600.

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Solutions Manual, Chapter 4 1
Problem 4-18 (continued)

5. Last Year: Proposed:

23,000 units 29,900 units*
Total Per Unit Total Per Unit
Sales ............................ $690,000 $30.00 $789,360 $26.40**
Variable expenses ......... 276,000 12.00 358,800 12.00
Contribution margin ...... 414,000 $18.00 430,560 $14.40
Fixed expenses ............. 270,000 310,000
Operating income ......... $144,000 $120,560
* 23,000 units 1.3 = 29,900 units
** $30 per unit (1 0.12) = $26.40 per unit
No, the changes should not be made since operating income decreases.

6. Expected total contribution margin:

23,000 units 150% $14 per unit* ................ $483,000
Present total contribution margin:
23,000 units $18 per unit .............................. 414,000
Incremental contribution margin, and the amount
by which advertising can be increased with
operating income remaining unchanged ............. $ 69,000
*$30 ($12 + $4) = $14

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2 Managerial Accounting, 10th Canadian Edition
Problem 4-19
1. The CM ratio is 60%:
Selling price ...................... $15 100%
Variable expenses ............. 6 40%
Contribution margin........... $ 9 60%

Break-even point in = Fixed expenses

total sales dollars CM ratio
$180,000
= =$300,000 sales
0.60

Break-even point in units:

Total fixed expenses $180,000

20,000 units
CM per unit $9 per unit

2. $45,000 increased sales 60% CM ratio = $27,000 increase in

contribution margin. Since fixed costs will not change, operating income
should also increase by $27,000.

3.
Proposed:
42,000 units*
Total Per Unit
Sales ............................ $567,000 $13.50**
Variable expenses ......... 252,000 6.00
Contribution margin ...... 315,000 $ 7.50
Fixed expenses ............. 280,000 ***
Operating income ......... $ 35,000

* 24,000 units 1.75 = 42,000 units

** $15 per unit 0.90 = $13.50 per unit
*** $180,000 + $100,000
No, the changes should not be made since operating income decreases
slightly to $35,000 from $36,000 last year.
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Solutions Manual, Chapter 4 3
Problem 4-19 (continued)

4. Expected total contribution margin:

48,000 $7 per unit* ...................................... $336,000
Present total contribution margin:
24,000 units $9 per unit ................................ 216,000
Incremental contribution margin, and the amount
by which advertising can be increased with net
operating income remaining unchanged ............. $120,000

*$15 ($6 + $2) = $7

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4 Managerial Accounting, 10th Canadian Edition
Problem 4-20

1. Product
Sinks Mirrors Vanities Total
Percentage of total
sales ......................... 25% 42% 33% 100%
Sales ............................ $126,000 100% $210,000 100% $168,000 100% $504,000 100%
Variable expenses ......... 37,800 30% 168,000 80% 92,400 55% 298,200 59%
Contribution margin ...... $88,200 70% $ 42,000 20% $ 75,600 45% 205,800 41%*
Fixed expenses ............. 223,600
Operating income
(loss) ......................... $( 17,800)
*$205,800 $504,000 = 41% (rounded).

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Solutions Manual, Chapter 4 5
Problem 4-20 (continued)
2. Break-even sales:

Total fixed expenses $223,600
$545,366 rounded
Contribution margin ratio . 41

3. The break-even point in units for the company as a whole would be:

(1) (2) (3)

(1) X (2)
Weighted
CM Sales Average CM
Products Per Unit Mix* Per Unit
Sinks $168 25% $42
Mirrors $ 40 50% 20
Vanities $144 25% 36
Total $98
*Sinks: 525 units 2,100 (525 + 1,050 + 525)
Mirrors: 1,050 units 2,100 (525 + 1,050 + 525)
Vanities: 525 units 2,100 (525 + 1,050 + 525)

Breakeven units =
Total fixed expenses $223,600
2,282 units rounded
Weighted average CM per unit $98

4. Memo to the president:

Although the company exceeded its sales budget of $500,000 for the
month, the mix of products sold changed substantially from that
budgeted. This is the reason the budgeted operating income was not
met, and the reason the break-even sales dollars and units were greater
than budgeted. The companys sales mix (in dollars) was planned at
48% Sinks, 20% Mirrors, and 32% Vanities. The actual sales mix was
25% Sinks, 42% Mirrors, and 33% Vanities.
As shown by these data, sales shifted away from Sinks, which provides
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6 Managerial Accounting, 10th Canadian Edition
Problem 4-20 (continued)

our greatest contribution per dollar of sales, and shifted strongly toward
Mirrors, which provides our least contribution per dollar of sales.
Consequently, although the company exceeded its budgeted level of
sales, these sales provided considerably less contribution margin than
we had planned, with a resulting decrease in operating income. Notice
from the attached statements that the companys overall CM ratio was
only 41%, as compared to a planned CM ratio of 52% and the weighted
average contribution margin per unit was only $98 compared to the
budgeted amount of $130 per unit. This also explains why the break-
even point was higher than planned. With 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.

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Solutions Manual, Chapter 4 7
Problem 4-31

1. i) Present method of production

Contribution margin per unit =

$60 [$9.00 + (1.2)($14) + (0.75)(1.2)($14) + $4.00]
= $60 [$9.00 + $16.80 + $12.60 + $4.00]= $17.60

Fixed costs = $1,108,000 + $1,685,000 = $2,793,000

break-even point = $2,793,000 $17.60 = 158,693 units (rounded)

ii) Automated method of production

Contribution margin per unit =

$60 [$7.50 + (0.75)($18) + (0.6)(0.75)($18) + $4.00]
= $60 [$7.50 + $13.50 + $8.10 + $4.00]
= $26.90

Fixed costs = $1,494,000 + $1,685,000 =$3,179,000

break-even point = $3,179,000 $26.90 = 118,178 units (rounded)

2. Lockhart Manufacturing will be indifferent between the two

manufacturing methods at the volume (X) where total costs are equal.

$42.40*X + $2,793,000 = $33.10**X + $3,179,000

$9.30X = $386,000
X = 41,505 units (rounded)

Or: Change in Fixed costs Change in Contribution Margin

$386,000 $9.30 = 41,505 (rounded)

*$42.40 = $9.00 + $16.80 + $12.60 + $4.00

**$33.10 = $7.50 + $13.50 + $8.10 + $4.00

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8 Managerial Accounting, 10th Canadian Edition
Problem 4-31 (continued)

Lockhart Manufacturing should use the automated method of production if

annual sales are expected to exceed 41,505 units and the present method
of production if annual sales are not expected to exceed 41,505 units. This
is because of the higher contribution margin per unit under the automated
method.

It should be noted however that in both methods the breakeven point is

much higher than the indifference point and it is not likely that Lockhart
would continue operations for this product if projected sales were as low as
the indifference point and that far below breakeven.

3. Factors that Lockhart Manufacturing may consider are:

Is the quality of the product affected by the method of production?
Is there a lot of variability and uncertainty about the demand for the
product?
What is Lockharts ability to produce and market this product quickly?
What is the reliability of the machinery?
What is the firms ability to discontinue marketing and production
while incurring the least amount of loss?
What are the consequences of variability in operating income on the
behaviour of managers?
Can Lockhart reassign the workers or will a layoff be required?
Although students may not recognize yet how to evaluate capital
investments it should be considered whether or not the initial
investment to automate is within the companys capital budget. A
comparison of the two methods investment costs and benefits should
be evaluated. Students will see this type of comparison in later
chapters.

(CGA-Canada, Solution Adapted)

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Solutions Manual, Chapter 4 9