Question

%E3-29 (similar to) Suppose Garrett Corp.'s breakeven point is revenues of $1,100,000. Fixed costs are $660,000. Requirements 1. Compute the contribution margin percentage. 2. Compute the selling price if variable costs are $16 per unit 3. Suppose 60,000 units are sold. Compute the margin of safety in units and dollars. 4. What does this tell you about the risk of Garrett making a loss? What are the most likely reasons for this risk to increase? Requirement 1. Compute the contribution margin percentage. Determine the formula for the contribution margin percentage. Contribution margin Breakeven point in revenues percentage Fixed costs (Enter percentage as a whole number.) The contribution margin percentage is %.

Answer 1

1.Contribution margin percent=Fixed cost / break even point in revenues

=$660,000/1,100,000*100

=60%

2. if variable cost is 16/unit,

contribution margin is 60% hence variable cost is 40% of sale

suppose sale= x variable cost=.4x

.4x=16 hence x=16/.4 = 40/unit selling price per unit=40

3. no of units sold =6000

hence total sales = 60000*40/unit =$2,400,000

MOS in$ =Total sales-break even sale

=$2,400,000-$1,100,000

=$1,300,000

BEQ=FIXED COST/CONTRIBUTION/UNIT

=$660,000/(40-16)

=27500 units

MOS in qty = Total sales qty-BEQ

=60000-27500

=$32500

4.

The Margin of Safety is vital to the company, as a reduced activity level, will lead to losses. The size of the margin of safety is an indicator of company’s financial health, i.e. low margin of safety represent high fixed overheads, and profits are not earned, until and unless the activity level so high that it covers fixed costs.

On the other hand, high margin of safety represents that the break-even point is highly less than the actual sales. Therefore, even if there is a decrease in sales, the business will be able to earn profits. So, the higher the margin, the greater are the chances to make profits or responsive to any sudden decline in company’s revenue, thus reducing the risk of losses in business.

The margin of Safety shows the amount by which drop in sales can be tolerated by the company before losses actually start incurring. When the margin is high, decrease in sales will not influence the business profit, while when it is low, a slight decline in sales, abruptly affect the entire business.