Examples_ch03 - Chapter 3 COSTVOLUMEPROFIT ANALYSIS...

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Chapter 3 COST–VOLUME–PROFIT ANALYSIS Examples 3-1 CVP computations. Garrett Manufacturing sold 410,000 units of its product for $68 per unit in 2014. Variable cost per unit is $60, and total fixed costs are $1,640,000. Required: 1. Calculate (a) contribution margin and (b) operating income. 2. Garrett’s current manufacturing process is labor intensive. Kate Schoenen, Garrett’s production manager, has proposed investing in state-of-the-art manufacturing equipment, which will increase the annual fixed costs to $5,330,000. The variable costs are expected to decrease to $54 per unit. Garrett expects to maintain the same sales volume and selling price next year. How would acceptance of Schoenen’s proposal affect your answers to (a) and (b) in requirement 1? 3. Should Garrett accept Schoenen’s proposal? Explain. SOLUTION 1a. Sales ($68 per unit × 410,000 units) $27,880,000 Variable costs ($60 per unit × 410,000 units) 24,600,000 Contribution margin $ 3,280,000 1b. Contribution margin (from above) $3,280,000 Fixed costs 1,640,000 Operating income $1,640,000 2a. Sales (from above) $27,880,000 Variable costs ($54 per unit × 410,000 units) 22,140,000 Contribution margin $ 5,740,000 2b. Contribution margin $5,740,000 Fixed costs 5,330,000 Operating income $ 410,000 3. Operating income is expected to decrease by $1,230,000 ($1,640,000 − $410,000) if Ms. Schoenen’s proposal is accepted. The management would consider other factors before making the final decision. It is likely that product quality would improve as a result of using state of the art equipment. Due to increased automation, probably many workers will have to be laid off. Garrett’s management will have to consider the impact of such an action on employee morale. In addition, the proposal increases the company’s fixed costs dramatically. This will increase the company’s operating leverage and risk. 1
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3-2 CVP exercises. The Incredible Donut owns and operates six doughnut outlets in and around Kansas City. You are given the following corporate budget data for next year: Revenues $10,400,000 Fixed costs $ 2,100,000 Variable costs $ 7,900,000 Variable costs change based on the number of doughnuts sold. Compute the budgeted operating income for each of the following deviations from the original budget data. (Consider each case independently.) Required: 1. An 11% increase in contribution margin, holding revenues constant 2. An 11% decrease in contribution margin, holding revenues constant 3. A 4% increase in fixed costs 4. A 4% decrease in fixed costs 5. A 7% increase in units sold 6. A 7% decrease in units sold 7. An 11% increase in fixed costs and a 11% increase in units sold 8. A 4% increase in fixed costs and a 4% decrease in variable costs 9. Which of these alternatives yields the highest budgeted operating income? Explain why this is the case. SOLUTION Revenues Variable Costs Contribution Margin Fixed Costs Budgeted Operating Income Orig. $10,400,000 G $7,900,000 G $2,500,000 $2,100,000 G $400,000 1. 10,400,000 7,625,000 2,775,000 a 2,100,000 675,000 2. 10,400,000 8,175,000 2,225,000 b 2,100,000 125,000 3. 10,400,000 7,900,000 2,500,000 2,184,000 c 316,000 4. 10,400,000 7,900,000 2,500,000 2,016,000 d 484,000 5. 11,128,000 e 8,453,000 f 2,675,000 2,100,000 575,000 6. 9,672,000 g 7,347,000 h 2,325,000 2,100,000 225,000 7. 11,544,000 i 8,769,000 j 2,775,000 2,331,000 k 444,000 8. 10,400,000 7,584,000 l 2,816,000 2,184,000 m 632,000 G stands for given.
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