Question

Problem 11-29 Margin of safety and operating leverage LO 11-6 Baird Company is considering the addition of a new product to its cosmetics line. The company has three distinctly different options: a skin cream, a bath oil, or a hair coloring gel. Relevant information and budgeted annual Income statements for each of the products follow Relevant Information Skin Cream b ath Oil Color Gel 104,000 184,000 64,000 Budgeted sales in unita (a) Expected sales price (b) Variable costs per unit (c) Income statements Sales revenue (a*b) Variable costs (a xe) Contribution margin Pixed costs Set income $ 936,000 (208,000) 728.000 (441,000) $ 287.000 $ 736,000 (184,000) 552,000 (315,000) $ 237,000 $ 704,000 (384,000) 320,000 (80,000) $240.000 Required: a. Determine the margin of safety as a percentage for each product. b. Prepare revised Income statements for each product, assuming a 20 percent increase in the budgeted sales volume. C. For each product, determine the percentage change in net income that results from the 20 percent increase in sales. d. Assuming that management is pessimistic and risk averse, which product should the company add to its cosmetics line? e. Assuming that management is optimistic and risk aggressive, which product should the company add to its cosmetics line?

Answer 1

Skin Cream Bath oil Color Gel Selling konce $ 4 $6 for Unit variable cost e pere Unit Contribution ker Unit & 1 $ 3. $ 7 $ 5 P/vratio 3x100 XL0 Sextoo - 2x100 275.): 2:45.45 % 315070 BEP in Sales dollar 80,000 45.455% PN 44.1000 77.787 = 566984 420.000 =176000 (Apport Margin of Safety 436000 - 420000 736000 P0400-1760 704000 Sale-BEP - 4100 :sales 936070-566989 936000 = 39.22 %. = 42.93% 75%.

Income Statement farticular Skin Cream Bath oil Color Gel 1248v Uni220800 Und 76800 Unis 13 Sales (-) variable costs, Contribution a fixed Cost 1123200 883200 844800 2496009 (220800) (460600) 873600 662400 384000 (441000) 315070) (30000) Net Income 43260 347400 30 4000 Bath Skin Cream Color Greb e percentage iu change in net Income 432600 -- 287000 -XID 287000 (347400 237000) 237600 (3 0400- 240,000) 249.000 Y10 14560 287060 - y100 -110400 237010 XII 3 64100 - 50.4394 24000 X 60 = 46-5824 226=674. (d) ad upessimistic , vüsk-averse management would likly choose to color Gel to the product line. This product has the highest margin of Safty among the three product.

Cream would C. If management is optimistic and rusk - aggressive, then Skin Cream no be the favored product, while this produe carries a low margin of safty. It offers the highest level of operating leverage.