Question

Contribution Margin, Break-Even Units, Break-Even Sales, Margin of Safety, Degree of Operating Leverage

Aldovar Company produces a variety of chemicals. One division makes reagents for laboratories. The division's projected income statement for the coming year is:

Sales (203,000 units @ $70)	$14,210,000
Total variable cost	8,120,000
Contribution margin	$6,090,000
Total fixed cost	4,945,500
Operating income	$1,144,500

Required:

1. Compute the contribution margin per unit, and calculate the break-even point in units. Calculate the contribution margin ratio and use it to calculate the break-even sales revenue. (Note: Round contribution margin ratio to four significant digits, and round the break-even sales revenue to the nearest dollar.)

Unit contribution margin	$
Break-even point in units
Contribution margin ratio
Break-even sales revenue	$

2. The divisional manager has decided to increase the advertising budget by $250,000. This will increase sales revenues by $1 million. By how much will operating income increase or decrease as a result of this action? Use your answers from part 1 to determine the amount.
$   

3. Suppose sales revenues exceed the estimated amount on the income statement by $1,500,000. Without preparing a new income statement, by how much are profits underestimated? Use your answers from part 1 to determine the amount.
$

4. Compute the margin of safety based on the original income statement. Round your answer to the nearest dollar.
$

5. Compute the degree of operating leverage based on the original income statement. Round your answer to two decimal places.

If sales revenues are 8% greater than expected, what is the percentage increase in operating income? Round your answer to four decimal places before converting to a percentage. For example, 0.88349 would be rounded to 0.8835 and entered as 88.35%.
%

Answer 1

$ Points from the Given Information Sales Revenue Total Variable Cost Contribution Margin Total Fixed Cost Operating Income No. of Units Sales Price $ $ $ $ 14,210,000 8,120,000 6,090,000 4,945,500 1,144,500 203,000 Units 70 Per Unit $ $ $ Requirement 1 Unit Contribution Margin Break-Even Point Contribution Margin Ratio Break-Even Sales Revenue 30 Per Unit ($ 6,090,000 = 203,000 Units] 164,850 Units [$ 4,945,500 = $ 30 Per Unit] 42.86% 11,539,500 $ $ $ $ Requirement 2 Increase in Fixed Costs Increase in Sales Revenue Contribution Margin Ratio Increase in Contribution Margin Less : Increase in Fixed Costs Increase in Net Income 250,000 1,000,000 42.86% 428,571 250,000 178,571 A A A Requirement 3 Increase in Sales Revenue $ 1,000,000 Contribution Margin Ratio 42.86% Increase in Contribution Margin $ 428,571 Since there is no change in the Fixed Costs, Change in Contribution Margin is the Change in the Net Operating Income. Therefore, Profits Underestimated is $ 428,571

Requirement 4 Total Sales Revenue Less : Break - Even Sales Margin of Safety (In Dollars) Margin of Safety (In %) $ $ $ 14,210,000 11,539,500 2,670,500 18.79% Requirement 5 Contribution Margin $ 6,090,000 Operating Income $ 1,144,500 Operating Leverage 5.32 A 10% increase in Sales, this will result in an increase of 53.2% of the Operating Income. If there is an increase in 8% of Sales, this will result in an increase of 42.56%