Question

Due to erratic sales of its sole product—a high-capacity battery for laptop computers—PEM, Inc., has been experiencing financial difficulty for some time. The company’s contribution format income statement for the most recent month is given below:

Sales (19,500 units × $30 per unit)	$	585,000
Variable expenses		409,500
Contribution margin		175,500
Fixed expenses		180,000
Net operating loss	$	(4,500	)

Required:

1. Compute the company’s CM ratio and its break-even point in unit sales and dollar sales.

2. The president believes that a $16,000 increase in the monthly advertising budget, combined with an intensified effort by the sales staff, will result in an $80,000 increase in monthly sales. If the president is right, what will be the increase (decrease) in the company’s monthly net operating income?

3. Refer to the original data. The sales manager is convinced that a 10% reduction in the selling price, combined with an increase of $60,000 in the monthly advertising budget, will double unit sales. If the sales manager is right, what will be the revised net operating income (loss)?

4. Refer to the original data. The Marketing Department thinks that a fancy new package for the laptop computer battery would grow sales. The new package would increase packaging costs by 75 cents per unit. Assuming no other changes, how many units would have to be sold each month to attain a target profit of $9,750?

5. Refer to the original data. By automating, the company could reduce variable expenses by $3 per unit. However, fixed expenses would increase by $72,000 each month.

a. Compute the new CM ratio and the new break-even point in unit sales and dollar sales.

b. Assume that the company expects to sell 26,000 units next month. Prepare two contribution format income statements, one assuming that operations are not automated and one assuming that they are. (Show data on a per unit and percentage basis, as well as in total, for each alternative.)

c. Would you recommend that the company automate its operations (Assuming that the company expects to sell 26,000)?

Answer 1

1) CM ratio, Break Even point in Units Dollars |CM Ratio |Break-Even Point in Units |Break - Even Point in Dollars 30% 20000 600000 Formulas CM Ratio Contribtuion Margin / Sales BEP in Units Fixed Cost / CM per unit BEP in Dollars = Fixed cost / CM ratio - |2) Increase in sales Increase in Contribution Margin 80000 24000 Increase in Fixed cost 16000 Increase in Net income 8000 Increase By $ 8,000

Reduction in Selling Price 10% 3) Increase in Advertisements 60000 Sales Will be Double PEM INC Contribution Margin Statement sales Variable Expenses Contribution Margin Fixed Expense Net Operating Loss 1053000 819000 234000 240000 -6000 New Package Increase the paking cost by 4) 0.75 Target Net income 9750 New Contribution Margin (9-0.75) (180000+9750)/8.25 8.25 Sales Units 23000 Sales Units 23000

Reduce the Varaibe cost by 5) Fixed cost Will increase 72000 New Contibution Margin 12 New Fixed cost 252000 CM Ratio Break-Even Point in Units Break - Even Point in Dollars 40% 21000 630000 Assume Company expeted to sell 26000 PEM INC Contribution Margin Statement Non Automated Automated Total Per unit % Total Per unit sales Variable Expenses Contribution Margin Fixed Expense Net Operating Income 780000 780000 30 100% 30 100% 546000 70% 468000 21 18 60% 312000 40% 234000 30% 12 252000 180000 54000 60000 Would you Recommand for Automation YES