Question

Arnold Vimka is a venture capitalist facing two alternative investment opportunities. He intends to invest $1,000,000 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 (8,900 units X $28.00) Variable cost (8,900 units x a) Contribution margin Fixed cost Company Name Larson Benson $ 19.00 $ 9.50 $ 249,200 $ 249,200 (169,100) (84,550) $ 80,100 $ 164,650 (25,000) (109,550) $ 55,100 $ 55, 100 Net income 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.) c. 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

A)

	Formula	Larson	Benson
Operating leverage	contribution margin /Net income	80100 / 55100 1.45	164650/55100 2.99

B)Number of units = present unit sales + (present unit sales* % increase)

                 = 8900+ (8900*11%)

                = 8900 + 979

                = 9879 units

	Larson		Benson
variable cost per unit	19		9.50
sales revenue (9879*28)	276612		276612
variable cost	-187701   (9879*19)		-93850.5   (9879*9.50)
contribution margin	88911		182761.5
Fixed cost	-25000		-109550
Net income	63911		73211.50
percentage change	[63911-55100]/55100 8811/55100 15.99%		[73211.5-55100]/55100 18111.5/55100 32.87%

% Change = [current year net income -last yeay income ]/last year net income

C)

Number of units = present unit sales - (present unit sales* % increase)

                 = 8900- (8900*11%)

                = 8900 - 979

                = 7921 units

	Larson		Benson
variable cost per unit	19		9.50
sales revenue (7921*28)	221788		221788
variable cost	-150499 (7921*19)		-75249.5 (7921*9.50)
contribution margin	71289		146538.5
Fixed cost	-25000		-109550
Net income	46289		36988.50
percentage change	[46289-55100]/55100 -8811/55100 - 15.99%		[36988.5-55100]/55100 -18111.5/55100 -32.87%