Question

Stuart 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				Bath Oil				Color Gel
Budgeted sales in units (a)		132,000				212,000				92,000
Expected sales price (b)	$	7			$	7			$	14
Variable costs per unit (c)	$	2			$	4			$	10
Income statements
Sales revenue (a × b)	$	924,000			$	1,484,000			$	1,288,000
Variable costs (a × c)		(264,000	)			(848,000	)			(920,000	)
Contribution margin		660,000				636,000				368,000
Fixed costs		(525,000	)			(525,000	)			(120,000	)
Net income	$	135,000			$	111,000			$	248,000

  
Required:

1. Determine the margin of safety as a percentage for each product.

2. Prepare revised income statements for each product, assuming a 20 percent increase in the budgeted sales volume.

3. For each product, determine the percentage change in net income that results from the 20 percent increase in sales.

4. Assuming that management is pessimistic and risk averse, which product should the company add to its cosmetics line?

5. Assuming that management is optimistic and risk aggressive, which product should the company add to its cosmetics line?

Answer 1

Skim Cream Bath Oil Color Gel 132000 212000 92000 14) 101 Budgeted Sales Expected sales Price Variable Cost per unit Income Statement Sales Revenue Variable Expense Contribution Margin Fixed Cost Net income 924000114840001 1288000 264000 848000 920000 660000 636000 368000 525000 525000 120000 135000 111000 248000 1. Determine the Margin of Safety as a percentage for Each Product Skim Cream Bath Oil Color Gel CM Ratio 71.43% 42.86% 28.57% (Contribution margin/sales) BEP Sales 735000 1225000 420000 (Fixed Cost/CM ratio) Margin of Safety 189000 259000 8680001 Actual sales - BEP sale) Margin of Safety % 20.45% 17.45% 67.39% (Margin of Safety / Actual Sales A) Determine the Margin of Safety as a percentage for Each Product Skim Cream Bath Oil Color Gel Margin of Safety % 20.45% 17.45% 67.39% (Margin of Safety / Actual Sales)

B. Revised income Statement for each product if 20% increase in budgeted Sales volume Skim Cream Bath Oil Color Gel Budgeted Sales (20% Increase) 158400 2 54400 110400 Expected sales Price 7 Variable Cost per unit 2 10 Stuart Company Income Statement Skim Cream Bath Oil Color Gel Sales Revenue 1108800 1780800 1545600 LESS:Variable Expense 316800 1017600 1104000 Contribution Margin 792000763200441600 LESS: Fixed Cost 525000 525000 120000 Net income 267000 238200) 321600 C. Percentage change in net income with the percentage 20% change in Sales Skim Cream Bath Oil Color Gel Percentage change in net income 97.78% 114.59% 29.68% Assume that the Management is Pessimistic and risk averse, Which product should the company add: Color Gel Assume that the Management is Optimistic and risk Aggressive, Which product should the company add: Bath Oil