Question

Island Novelties, Inc., of Palau makes two products—Hawaiian Fantasy and Tahitian Joy. Each product’s selling price, variable expense per unit, and annual sales volume are as follows:

	Hawaiian Fantasy			Tahitian Joy
Selling price per unit	$	36		$	120
Variable expense per unit	$	18		$	30
Number of units sold annually		16,000			7,200

Fixed expenses total $812,500 per year.

Required:

1. Assuming the sales mix given above, do the following:

a. Prepare a contribution format income statement showing both dollar and percent columns for each product and for the company as a whole.

b. Compute the company's break-even point in dollar sales. Also, compute its margin of safety in dollars and its margin of safety percentage.

2. The company has developed a new product called Samoan Delight that sells for $40 each and that has variable expenses of $30 per unit. If the company can sell 24,000 units of Samoan Delight without incurring any additional fixed expenses:

a. Prepare a revised contribution format income statement that includes Samoan Delight. Assume that sales of the other two products does not change.

b. Compute the company’s revised break-even point in dollar sales. Also, compute its revised margin of safety in dollars and margin of safety percentage.

Answer 1

Required 1 :

1( a) :

	Hawaiian Fantasy		Tahitian Joy		Total
	Amount($)	Percentage(%)	Amount($)	Percentage(%)	Amount($)	Percentage(%)
Sales	$ 576,000   {16000*$32}	100%       {576,000/576,000}	$ 864,000   {7,200*$120}	100% {864,000/864,000}	$ 1,440,000	100%{1,440,000/1,440,000}
Less: Variable expenses	($288,000)   {16000*$18}	50%          {288,000/576,000}	($ 216,000)   {7,200*$30}	25%    {216,000/864,000}	($504,000)	35 % {504,000/1,440,000}
Contribution Margin	$ 288,000	50%          {288,000/576,000}	$ 648,000	75%    {648,000/864,000}	$ 936,000	65% {936,000/1,440,000}
Less: Fixed expense					($812,500)
Net operating income					$ 123,500

1(B) :

Dollar sales to break even = Fixed Expenses / Contribution margin Ratio

Dollar sales to break even = $ 812,500 / 65 %

Dollar sales to break even = $ 1,250,000

Margin of safety percentage = Margin of safety in dollars / Actual sales

Margin of safety in dollars = Actual Sales - Break even sales

Margin of safety in dollars = $ 1,440,000 - $ 1,250,000

Margin of safety in dollars = $ 190,000

Margin of safety percentage = Margin of safety in dollars / Actual sales

Margin of safety percentage = $ 190,000 / $ 1,440,000

Margin of safety percentage = 13.2 % (rounded to 1 decimal )

Required 2 :

2( a) :

	Hawaiian Fantasy		Tahitian Joy		Samoan Delight		Total
	Amount($)	Percentage(%)	Amount($)	Percentage(%)	Amount($)	Percentage(%)	Amount($)	Percentage(%)
Sales	$ 576,000   {16000*$32}	100%       {576,000/576,000}	$ 864,000   {7,200*$120}	100% {864,000/864,000}	$ 960,000 {24,000*40}	100%   {960,000/960,000}	$ 2,400,000	100%{2,400,000/2,400,000}
Less: Variable expenses	($288,000)   {16000*$18}	50%          {288,000/576,000}	($ 216,000)   {7,200*$30}	25%    {216,000/864,000}	($720,000) {24,000*30}	75%   {720,000/960,000}	($1,224,000)	51 % {1,224,000/2,400,000}
Contribution Margin	$ 288,000	50%          {288,000/576,000}	$ 648,000	75%    {648,000/864,000}	$ 240,000	25%   {240,000/960,000}	$ 1,176,000	49% {1,176,000/2,400,000}
Less: Fixed expense							($812,500)
Net operating income							$ 363,500

2(B) :

Dollar sales to break even = Fixed Expenses / Contribution margin Ratio

Dollar sales to break even = $ 812,500 / 49 %

Dollar sales to break even = $ 1,658,163

Margin of safety percentage = Margin of safety in dollars / Actual sales

Margin of safety in dollars = Actual Sales - Break even sales

Margin of safety in dollars = $ 2,400,000 - $ 1,658,163

Margin of safety in dollars = $ 741,837

Margin of safety percentage = Margin of safety in dollars / Actual sales

Margin of safety percentage = $ 741,837 / $ 2,400,000

Margin of safety percentage = 30.9 % (rounded to 1 decimal )