ACCT 2300_chapter_5_in_class_2

# ACCT 2300_chapter_5_in_class_2 - Problem 5-18 Basic CVP...

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Problem 5-18 Basic CVP Analysis Stratford Company distirutes a lightweight lawn chair that sells for \$15 per unit. Variable costs are \$6 per unit, and fixed costs total \$180,000, annually. Required: 1. What is the product's CM ratio? The CM ratio is 60% Selling price \$15 100% Variable expenses 6 40% (\$6/\$15) Contribution margin \$9 60% 2. Use the CM ratio to determine the break-even point in sales dollars Break-even point = Fixed expenses in total sales dollars CM ratio = \$180,000 = \$300,000 sales 60% 3. The company estimates that sales will increase by \$45,000 during the coming year due to increased demand. By how much should net operating income increase? Using the "quick and dirty" method from class, we would multiply the incremental increase in expected sales X CM ratio = expected increase in net operating income. (This assumes no changes in variable costs per unit or fixed costs). So: \$45,000 increased sales * 60% CM ratio = \$27,000 increased contribution margin. Since fixed costs will not change, net operating income should also increase by \$27,000. 4. Assume that the operating results for last year were as follows: Sales \$360,000 Variable expenses 144,000 Contribution margin \$216,000 Fixed expenses 180,000 Net operating income \$36,000 a. Compute the degree of operating leverage at the current level of sales. Degree of operating leverage = Contribution margin

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Net Operating Income = \$216,000 = 6 \$36,000 b. The president expects sales to increase by 15% next year. By how much should net operating income increase? 6 (degree of operating leverage) * 15% (expected increase in sales)= 90% increase in NOI. In dollars, this increase would be 90% * \$36,000 (current NOI) = \$32,400 additional income. 5. Refer to the original data. Assume that the company sold 28,000 units last year. The sales manager is convnced that a 10% reduction in the selling price, combined with a \$70,000 increase in advertising expenditures, would cause annual sales in units to increase by 50%. Prepare two contribution format income statements, one showing the results of last year's operatings and one showing what the results of operations would be if these changes were made. Would you recommend that the company do as the sales manager suggest? Last Year Proposed 28,000 units 42,000 units* Total Per Unit Total Per Unit Sales \$420,000 \$15 567000 13.5 Variable expenses 168,000 6 252,000 6 Contribution margin \$252,000 \$9 315,000 7.5 Fixed expenses 180,000 250,000 Net Operating Income \$72,000 65,000 Proposed # of units: 28,000 *1.5 = 42,000 units Sales per unit: \$15 per unit (previous year's amount) - (\$15 * .10) = \$13.50 per unit or : \$15 per unit * 0.90 = \$13.50 per unit. The change should not be made because the NOI will drop from \$72,000 under the old assumptions to \$65,000 under the proposed assumption. 6. Refer to the original data. Assume again that the company sold 28,000 units last year. The president feels that it would be unwise to change the selling price. Instead, he wants to increase the sales commission by \$2 per unit. He thinks that this move, combined with some increase in advertising, would cause annual sales to double. By how much could advertising be increased with profits remaining unchanged? Do not prepare an income statement; use the incremental analysis approach.
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ACCT 2300_chapter_5_in_class_2 - Problem 5-18 Basic CVP...

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