Question

Stratford Company distributes a lightweight lawn chair that sells for $20 per unit. Variable expenses are $6 per unit, and fixed expenses total $451,500 annually.

Required:

Answer the following independent questions:

1.	What is the product’s CM ratio?

    

2.	Use the CM ratio to determine the break-even point in sales dollars.

      

3.	The company estimates that sales will increase by $120,000 during the coming year due to increased demand. By how much should net operating income increase?

    

4.	Assume that the operating results for last year were as follows:

Sales		$	860,000
Less: Variable expenses			258,000
Contribution margin			602,000
Less: Fixed expenses			451,500
Net operating income		$	150,500

a.	Compute the degree of operating leverage at the current level of sales. (Round your answer to 1 decimal place.)

           

b.	The president expects sales to increase by 20% next year. By how much should net operating income increase?

             

5-a.

Refer to the original data. Assume that the company sold 45,000 units last year. The sales manager is convinced that a 12% reduction in the selling price, combined with a $158,000 increase in advertising expenditures, would increase annual unit sales by 40%. Prepare two contribution format income statements: one showing the results of last year’s operations, and one showing what the results of operations would be if these changes were made. (Do not round intermediate calculations. Round "Per Unit" answers to 2 decimal places.)

      

5-b.	Would you recommend that the company do as the sales manager suggests?
	Yes No

6.

Refer to the original data. Assume again that the company sold 45,000 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 $3 per unit. He thinks that this move, combined with some increase in advertising, would double annual unit sales. By how much could advertising be increased with profits remaining unchanged?

    

Answer 1

Answer with working is given below

Working note: Selling price Variable cost Contribution margin per unit Fixed expenses Per unit $20 $6 $14 $451,500 1. CM Ratio (Contribution/Selling price) 70.0% 2. Break Even Point in $ sales (Fixed Cost/Contribution Margin Ratio) $645,000 Incremental Sales Variable cost -30% Contribution margin Total $120,000 $36,000 $84,000 Net operating income will increase by | $84,000 4. a) 4.00 Degree of Operating leverage (Contribution/EBIT) 4.b) Degree of Operating leverage X growth = Increase in Profit (4 X 20%) Operating Income will increase by 80% $120,400 Working Sales-Revised increased by 20% Variable cost -30% Contribution margin Fixed expenses net operating income Total $1,032,000 $309,600 $722,400 $451,500 $270,900 Increase in profit % Increase in profit 120,400 80% 5. a) STRATFORD COMPANY CONTRIBUTION MARGIN INCOME STATEMENT Last Year Proposed 45,000 units 63,000 units Total Per unit Total Per unit $900,000 $20.0 $1,108,800 $17.6 $270,000 $6.0 $378,000 $6.0 $630,000 $14.0 $730,800 $11.6 $451,500 $609,500 $178,500 $121,300 Sales Variable Cost Contribution Fixed cost Net Income 5. b) No - because net income is lower per unit 6. $20 Selling price Less : Variable Cost Sales Commission Contribution per unit $11 90,000 $990,000 Incremental analysis Total Units- with 50% increase Total Incremental Contribution Less: Existing Fixed cost Existing profit Total Advertising Cost $451,500 $178,500 $360,000 Advertising can be increased by ($360,000-$158,000) = $202,000