Question

Disk City, Inc. is a retailer for digital video disks. The projected net income for the current year is $2,390,000 based on a sales volume of 270,000 video disks. Disk City has been selling the disks for $20 each. The variable costs consist of the $7 unit purchase price of the disks and a handling cost of $2 per disk. Disk City’s annual fixed costs are $580,000.

Management is planning for the coming year, when it expects that the unit purchase price of the video disks will increase 20 percent. (Ignore income taxes.)

Required:

1. Calculate Disk City’s break-even point for the current year in number of video disks. (Round your final answer up to nearest whole number.)

2. What will be the company’s net income for the current year if there is a 10 percent increase in projected unit sales volume?

3. What volume of sales (in dollars) must Disk City achieve in the coming year to maintain the same net income as projected for the current year if the unit selling price remains at $20? (Do not round intermediate calculations. Round your final answer to the nearest whole number.)

4. In order to cover a 20 percent increase in the disk’s purchase price for the coming year and still maintain the current contribution-margin ratio, what selling price per disk must Disk City establish for the coming year? (Do not round intermediate calculations. Round your final answer to 2 decimal places.)

Answer 1

Answer 1.

Selling Price per disk = $20

Variable Cost per disk = Purchase Price per disk + Handling Cost per disk
Variable Cost per disk = $7 + $2
Variable Cost per disk = $9

Contribution Margin per disk = Selling Price per disk - Variable Cost per disk
Contribution Margin per disk = $20 - $9
Contribution Margin per disk = $11

Fixed Costs = $580,000

Break-even Point in number of disk = Fixed Costs / Contribution Margin per disk
Break-even Point in number of disk = $580,000 / $11
Break-even Point in number of disk = 52,727

Answer 2.

Current Year:

Sales Volume = 270,000
Contribution Margin per disk = $11
Fixed Costs = $580,000

Contribution Margin = Sales Volume * Contribution Margin per disk
Contribution Margin = 270,000 * $11
Contribution Margin = $2,970,000

Net Income = $2,390,000

Increase in Sales Volume = 10%

Increase in Net Income = Contribution Margin * Increase in Sales Volume
Increase in Net Income = $2,970,000 * 10%
Increase in Net Income = $297,000

Projected Net Income = $2,390,000 + $297,000
Projected Net Income = $2,687,000

Answer 3.

Current Year:

Selling Price per disk = $20
Variable Cost per disk = $9

Coming Year:

Increase in Purchase Price per disk = $7 * 20%
Increase in Purchase Price per disk = $1.40

Variable Cost per disk = $9.00 + $1.40
Variable Cost per disk = $10.40

Selling Price per disk = $20

Contribution Margin Ratio = (Selling Price per disk - Variable Cost per disk) / Selling Price per disk
Contribution Margin Ratio = ($20 - $10.40) / $20
Contribution Margin Ratio = 0.48

Fixed Costs = $580,000
Net Income = $2,390,000

Required Sales in dollar = (Fixed Costs + Net Income) / Contribution Margin Ratio
Required Sales in dollar = ($580,000 + $2,390,000) / 0.48
Required Sales in dollar = $6,187,500

Answer 4.

Current Year:

Selling Price per disk = $20
Variable Cost per disk = $9

Contribution Margin Ratio = (Selling Price per disk - Variable Cost per disk) / Selling Price per disk
Contribution Margin Ratio = ($20 - $9) / $20
Contribution Margin Ratio = 0.55

Coming Year:

Variable Cost per disk = $10.40
Contribution Margin Ratio = 0.55

Contribution Margin Ratio = (Selling Price per disk - Variable Cost per disk) / Selling Price per disk
0.55 = (Selling Price per disk - $10.40) / Selling Price per disk
0.55 * Selling Price per disk = Selling Price per disk - $10.40
0.45 * Selling Price per disk = $10.40
Selling Price per disk = $23.11