Question

Memofax, Inc. produces memory enhancement software for computers. Sales have been very erratic, with some months showing a profit and some months showing a loss. The company's contribution format income statement for the most recent month is given below: Sales (18,000 units at $25 per unit) Less: Variable expenses $450,000 270,000 Contribution margin Less: Fixed expenses 180,000 188,000 Net operating loss $ (8,000) Required: 1. Compute the company's CM ratio and its break-even point in both units and dollars. Contribution margin ratio Break-even point in units Break-even point in dollars The sales manager feels that an $20,000 increase in the monthly advertising budget, combined with an intensified effort by the sales staff, will result in a $130,000 increase in monthly sales. If the sales manager is right, what will be the effect on the company's monthly net operating income or loss? (Use the incremental approach in preparing your answer.) Increase in monthly net operating income

Answer 1

Req 1 :
Contribution margin per unit = Contribution margin / Units sold = 180000 / 18000	10
Contribution margin ratio = Contribution margin / Sales = 180000 / 450000	40%
Break-even point in units = Fixed expenses / Contribution margin per unit = 188000 / 10	18800
Break-even point in dollars = Fixed expenses / Contribution margin ratio = 188000 / 40%	470000

Req 2 :
Increase in Contribution margin ( Increase in sales * Contribution margin ratio = 130000 * 40% )	52000
(-) Increase in advertising budget	20000
Increase (decrease) in net operating income	32000
Increase in monthly net operating income	32000

Req 3 :
Revised selling price = Current selling price * ( 1 - % reduction ) = 25 * ( 1 - 10% )	22.5
Current unit variable cost = Variable expenses / Units sold = 270000 / 18000	15
Revised fixed costs = Current fixed costs + Increase in advertising expense = 188000 + 85000	273000
Revised sales units = Current sales units * 2 = 18000 * 2	36000

Sales ( 36000 * 22.5 )	810000
(-) Variable expenses ( 36000 * 15 )	540000
Contribution margin	270000
(-) Fixed expenses	273000
Net operating income (loss)	(3000)

Req 4 :
Revised unit variable cost = Current unit variable cost + 0.5 = 15 + 0.5	15.5
Units sales to attain target profit = ( Target profit + Fixed expenses ) / ( Selling price - Unit variable cost ) = ( 2000 + 188000 ) / ( 25 - 15.5 )	20000

Req 5A :
Revised unit variable cost = 15 / 2	7.5
Revised fixed expenses = 188000 + 60500	248500
Contribution margin per unit = Selling price - Unit variable cost = 25 - 7.5	17.5
CM ratio = Contribution margin per unit / Selling price = 17.5 / 25	70%
Break-even point in unit sales = Fixed costs / Contribution margin per unit = 248500 / 17.5	14200
Break even point in dollar sales = Fixed costs / CM ratio = 248500 / 70%	355000

Req 5B :
	Not automated			Automated
	Total	Per unit	%	Total	Per unit	%
Sales	625000	25	100%	625000	25	100%
Variable expenses	375000	15	60%	187500	7.5	30%
Contribution margin	250000	10	40%	437500	17.5	70%
Fixed expenses	188000			248500
Net operating income	62000			189000