Question

Arnold Vimka is a venture capitalist facing two alternative investment opportunities. He intends to invest $1 million in a start-up firm. He is nervous, however, about future economic volatility. He asks you to analyze the following financial data for the past year's operations of the two firms he is considering and give him some business advice. Variable cost per unit (a) Sales revenue (8,200 units x $30.00) Variable cost (8,200 units x a) Contribution margin Fixed cost Net income Company Name Larson Benson $ 19.00 $ 9.50 $ 246,000 $ 246,000 (155,800) (77,900) $ 90,200 $ 168, 100 (24,200) (102,100) $ 66,000 $ 66,000 Required a. Use the contribution margin approach to compute the operating leverage for each firm. b. If the economy expands in coming years, Larson and Benson will both enjoy a 11 percent per year increase in sales, assuming that the selling price remains unchanged. Compute the change in net income for each firm in dollar amount and in percentage. (Note: Since the number of units increases, both revenue and variable cost will increase.) If the economy contracts in coming years, Larson and Benson will both suffer a 11 percent decrease in sales volume, assuming that the selling price remains unchanged. Compute the change in net income for each firm in dollar amount and in percentage. (Note: Since the number of units decreases, both total revenue and total variable cost will decrease.)

Answer 1

Part-a
	Company Name
	Larson	Benson
Variable cost per unit (a)	$19.00	$9.50
Sales revenue (8,200 units × $30)	$246,000.00	$246,000.00
Variable cost (8,200 units × a)	-$155,800.00	-$77,900.00
Contribution margin (a)	$90,200.00	$168,100.00
Fixed cost	-$24,200.00	-$102,100.00
Net income (b)	$66,000.00	$66,000.00
Operating leverage (a/b)	1.37	2.55
Part-b
Sales volume increases by 11%
	Company Name
	Larson	Benson
Variable cost per unit (a)	$19.00	$9.50
Selling price ( c)	$30.00	$30.00
Existing Units	8200	8200
Revised Sales Unit ( existing sales Unit X1.11) (b)	9102	9102
Sales revenue (d=bxc)	$273,060.00	$273,060.00
Variable cost (e=bXa)	$172,938.00	$86,469.00
Contribution margin (d-e)	$100,122.00	$186,591.00
Fixed cost	-$24,200.00	-$102,100.00
Net income (f)	$75,922.00	$84,491.00
Existing net income (g)	66,000	66,000
Change in net income (h=f-g)	9,922	18,491
Change in net income % (h/g)	15%	28%
Part-c
Sales volume deccreases by 11%
	Company Name
	Larson	Benson
Variable cost per unit (a)	$19.00	$9.50
Selling price ( c)	$30.00	$30.00
Existing Units	8200	8200
Revised Sales Unit ( existing sales Unit X0.89) (b)	7298	7298
Sales revenue (d=bxc)	$218,940.00	$218,940.00
Variable cost (e=bXa)	$138,662.00	$69,331.00
Contribution margin (d-e)	$80,278.00	$149,609.00
Fixed cost	-$24,200.00	-$102,100.00
Net income (f)	$56,078.00	$47,509.00
Existing net income (g)	$66,000.00	$66,000.00
Change in net income (h=f-g)	-$9,922.00	-$18,491.00
Change in net income % (h/g)	-15%	-28%