Question

Mark Willis is the advertising manager for Bargain Shoe Store. He is currently working on a major promotional campaign. His ideas include the installation of a new lighting system and increased display space that will add $24,000 in fixed costs to the $270,000 in fixed costs currently spent. In addition, Mark is proposing a 5% price decrease ($40 to $38) will produce a 20% increase in sales volume (20,000 to 24,000) according to market research. Variable costs will remain at $24 per pair of shoes since there is no change to purchasing or manufacturing. Management is impressed with Mark's research but concerned about the effects these changes will have on the break-even point. I need to compute the current break even point in units and compare it to the break-even point in units if Mark's ideas are used. I also need to prepare a CVP including a proforma income statement for current operations and if Mark's changes are adopted. And I am totally lost.

Answer 1

	Current	If Mark's ideas are used
Selling Price per Unit	$ 40	$ 38
Variable Cost per Unit	24	24
Contribution Margin per Unit	16	14
Total Fixed Cost	270,000	294,000
Break-even sales in units ( Total Fixed Cost / Contribution Margin per Unit )	16,875 units	21,000 units

Therefore, if Mark's ideas are used, break-even point increases from 16,875 units to 21,000 units.

Proforma Income Statement
	Current	If Mark's ideas are used
Sales Revenue	$ 800,000	$ 912,000
Less: Variable Costs	480,000	576,000
Contribution Margin	320,000	336,000
Fixed Costs	270,000	294,000
Net Operating Income	$ 50,000	$ 42,000

From the above table, it is clear that net operating income decreases from $ 50,000 to $ 42,000, if Mark's ideas are implemented.