Question

P6.53B (LO 1, 2, 3) Seaton Ltd. manufactures and sells laptop computers. For its 2020 business plan, Seaton estimated the following: Selling price Variable cost per laptop$300 Annual fixed costs$150,000 Net (after-tax) income $360,000 Tax rate $600 25% The March financial statements reported that sales were not meeting expectations. For the first three months of the year, only 400 units had been sold at the established price. With variable costs staying as planned, it was clear that the 2020 after-tax profit projection would not be reached unless some action was taken. A management committee presented the following mutually exclusive alternatives to the president: 1. Reduce the selling price by $60. The sales team forecasts that, with the significantly reduced selling price, 2,700 units can be sold during the remainder of the year. Total fixed and variable unit costs will stay as budgeted. 2. Lower variable costs per unit by $20 through the use of less expensive direct materials and slightly modified manufacturing techniques. The selling price will also be reduced by $40, and sales of 2,500 units for the remainder of

Answer 1

a.1.

Units os sales required to break-even (30,000 / 300)

100

Working:

Sales (400 x 600)	240000
Variable costs (400 x 300)	120000
Contribution margin	120000
Annual fixed costs	150000
balance contribution margin to be earned	30000
Units os sales required to break-even (30,000 / 300)	100

a.2.  

Sales required to achieve the planned net income

1700

units

Working:

Estimated after tax net income	A	360000
Tax Rate	B	25%
Estimated operating income   -- A / (1-B)	C	480000
Fixed expenses	D	150000
Required contribution margin (C + D)	E	630000
Contribution margin for three months	F	120000
Contribution margin required for the balance nine months (E - F)	G	510000
Unit Contribution margin (600 - 300)	H	300
Sales required to achieve the planned net income ( G / H)	I	1700

b. All the alternatives give the desired operating incomes. But Alternative 1, gives the higherst operating income.

Evaluation of the proposed alternatives
		Alternative 1	Alternative 2	Alternative 3
Sales Volume - for the remaining period	A	2700	2500	2200
Unit selling price	B	540	560	570
Unit variable costs	C	300	280	300
Unit contribution margin (B - C)	D	240	280	270
Total future contribution margin (A x D)	E	648000	700000	594000
Contribution margin for first three months	F	120000	120000	120000
Total contribution margin	G	768000	820000	714000
Fixed costs	H	150000	150000	130000
Operating Income (G - H)	I	618000	670000	584000
Taxes - 25%	J	154500	167500	146000
Net income (after tax)	K	463500	502500	438000
Working:
Alternative 1
Current Selling price		600
Reduction		60
Proposed selling Price		540
Unit variable costs		300
Alternative 2
Current Selling price		600
Reduction		40
Proposed selling Price		560
Current variable costs		300
Reduction		20
Proposed variable costs		280
Alternative 3
Current Selling price		600
Reduction		5%
Proposed selling Price		570
Unit variable costs		300
Fixed Costs		130000