Question

Problem 5-22 CVP Applications; Contribution Margin Ratio; Break-Even Analysis; Cost Structure (LO5-1, LO5-3, LO5-4, LO5-5, LO5-6] Due to erratic sales of its sole product-a high-capacity battery for laptop computers-PEM, Inc., has been experiencing financial difficulty for some time. The company's contribution format income statement for the most recent month is given below: Sales (12,900 units x $30 per unit) Variable expenses Contribution margin Fixed expenses Net operating loss $ 387,000 193,500 193,500 216,000 $ (22,500) Required: 1. Compute the company's CM ratio and its break-even point in unit sales and dollar sales. 2. The president believes that a $6,200 increase in the monthly advertising budget, combined with an intensified effort by the sales staff, will result in an $89,000 increase in monthly sales. If the president is right, what will be the increase (decrease) in the company's monthly net operating income? 3. Refer to the original data. The sales manager is convinced that a 10% reduction in the selling price, combined with an increase of $39,000 in the monthly advertising budget, will double unit sales. If the sales manager is right, what will be the revised net operating income (loss)? 4. Refer to the original data. The Marketing Department thinks that a fancy new package for the laptop computer battery would grow sales. The new package would increase packaging costs by $0.40 per unit. Assuming no other changes, how many units would have to be sold each month to attain a target profit of $4,800? 5. Refer to the original data. By automating, the company could reduce variable expenses by $3 per unit. However, fixed expenses would increase by $59,000 each month. a. Compute the new CM ratio and the new break-even point in unit sales and dollar sales. b. Assume that the company expects to sell 20,300 units next month. Prepare two contribution format income statements, one assuming that operations are not automated and one assuming that they are. (Show data on a per unit and percentage basis, as well as in total, for each alternative.) c. Would you recommend that the company automate its operations (Assuming that the company expects to sell 20,300)?

Answer 1

Per unit sales 30 Variable Expenses Contribution Margin Fixed Expense Net Operating Loss 12900 Units 387000 193500 193500 216000 -22500 (1) CM ratio, Break Even point in Units Dollars 50% 14400 432000 CM Ratio Break-Even Point in Units Break - Even Point in Dollars Formulas CM Ratio = Contribtuion Margin / Sales BEP in Units = Fixed Cost / CM per unit BEP in Dollars = Fixed cost / CM ratio 2) Increase in sales Increase in Contribution Margin (89000*50%) Increase in Fixed cost Increase in Net income 89000 44500 6200 38300 Increase By $ 38,300

Reduction in Selling Price Increase in Advertisements Sales Will be Double 10% 39000 PEM INC Contribution Margin Statement sales 696600 Variable Expenses 387000 Contribution Margin 309600 Fixed Expense 255000 Net Operating Loss 54600 Net Operating Loss 54600 New Package Increase the paking cost by Target Net income 0.40 4800 New Contribution Margin (15-0.40) Sales Units (216000+4800)/14.40 14.60 15123.3 Sales Units 15123

5) Reduce the Varaibe cost by Fixed cost Will increase New Contibution Margin (15+3) New Fixed cost (216000+53000) 53000 18 269000 CM Ratio (18/30) 60% Break-Even Point in Units (269000/18) 14944 Break - Even Point in Dollars 448333 Assume Company expeted to sell 20300 PEM INC Contribution Margin Statement Non Automated Automated Total Per unit % Total Per unit % sales 609000 100% 609000 30 Variable Expenses 304500 50% 243600 12 Contribution Margin 304500 15 50% 365400 18 Fixed Expense 216000 269000 Net Operating Income 88500 96400 151 100% 40% 60% Would you Recommand for Automation YES