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 (14,000 units at $25 per unit)	$	350,000
Less: Variable expenses		210,000
Contribution margin		140,000
Less: Fixed expenses		148,000
Net operating loss	$	(8,000)

Required:

1.	Compute the company’s CM ratio and its break-even point in both units and dollars.

      

2.

The sales manager feels that an $12,000 increase in the monthly advertising budget, combined with an intensified effort by the sales staff, will result in a $90,000 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.)

    

3.	Refer to the original data. The president is convinced that a 10% reduction in the selling price, combined with an increase of $65,000 in the monthly advertising budget, will double unit sales. What will the new contribution format income statement look like if these changes are adopted?

    

4.	Refer to the original data. The company’s advertising agency thinks that a new package would help sales. The new package being proposed would increase packaging costs by $0.5 per unit. Assuming no other changes, how many units would have to be sold each month to earn a profit of $4,000? (Do not round intermediate calculations.)

      

  

5.	Refer to the original data. By automating, the company could slash its variable expenses in half. However, fixed costs would increase by $90,000 per month.

a.	Compute the new CM ratio and the new break-even point in both units and dollars. (Do not round intermediate calculations. Round "Contribution Margin Ratio" to 2 decimal places.)

            

b.	Assume that the company expects to sell 20,000 units next month. Prepare two contribution format income statements: one assuming that operations are not automated, and one assuming that they are. (Do not round intermediate calculations. Round "Per Unit" and "Percentage" to 2 decimal places.)

            

c.

Answer 1

Original Data:

Selling Price per unit = $25.00

Variable Cost per unit = Variable Expenses / Number of units sold
Variable Cost per unit = $210,000 / 14,000
Variable Cost per unit = $15.00

Contribution Margin per unit = Selling Price per unit - Variable Cost per unit
Contribution Margin per unit = $25.00 - $15.00
Contribution Margin per unit = $10.00

Answer 1.

Contribution Margin Ratio = Contribution Margin per unit / Selling Price per unit
Contribution Margin Ratio = $10.00 / $25.00
Contribution Margin Ratio = 40%

Breakeven Point in unit sales = Fixed Expenses / Contribution Margin per unit
Breakeven Point in unit sales = $148,000 / $10.00
Breakeven Point in unit sales = 14,800

Breakeven Point in dollar sales = Fixed Expenses / Contribution Margin Ratio
Breakeven Point in dollar sales = $148,000 / 0.40
Breakeven Point in dollar sales = $370,000

Answer 2.

Increase in Sales = $90,000
Increase in Fixed Expenses = $12,000

Increase in Net Operating Income = Increase in Sales * Contribution Margin Ratio - Increase in Fixed Expenses
Increase in Net Operating Income = $90,000 * 0.40 - $12,000
Increase in Net Operating Income = $24,000

Answer 3.

Selling Price per unit = $25.00 - 10% * $25.00
Selling Price per unit = $22.50

Fixed Expenses = $148,000 + $65,000
Fixed Expenses = $213,000

Number of units sold = 2 * 14,000
Number of units sold = 28,000

Net Operating Income (Loss) = Number of units sold * (Selling Price per unit - Variable Cost per unit) - Fixed Expenses
Net Operating Income (Loss) = 28,000 * ($22.50 - $15.00) - $213,000
Net Operating Income (Loss) = -$3,000

Answer 4.

Variable Cost per unit = $15.00 + $0.50
Variable Cost per unit = $15.50

Contribution Margin per unit = Selling Price per unit - Variable Cost per unit
Contribution Margin per unit = $25.00 - $15.50
Contribution Margin per unit = $9.50

Required Unit Sales = (Fixed Expenses + Target Profit) / Contribution Margin per unit
Required Unit Sales = ($148,000 + $4,000) / $9.50
Required Unit Sales = 16,000

Answer 5-a.

Variable Cost per unit = $15.00 - 50% * $15.00
Variable Cost per unit = $7.50

Fixed Expenses = $148,000 + $90,000
Fixed Expenses = $238,000

Contribution Margin per unit = Selling Price per unit - Variable Cost per unit
Contribution Margin per unit = $25.00 - $7.50
Contribution Margin per unit = $17.50

Contribution Margin Ratio = Contribution Margin per unit / Selling Price per unit
Contribution Margin Ratio = $17.50 / $25.00
Contribution Margin Ratio = 70%

Breakeven Point in unit sales = Fixed Expenses / Contribution Margin per unit
Breakeven Point in unit sales = $238,000 / $17.50
Breakeven Point in unit sales = 13,600

Breakeven Point in dollar sales = Fixed Expenses / Contribution Margin Ratio
Breakeven Point in dollar sales = $238,000 / 0.70
Breakeven Point in dollar sales = $340,000

Answer 5-b.

Memofax, Inc. Contribution Income Statement Not Automated Automated Total Per Unit % Total Per Unit Sales $ 500,000 $ 25.00 100.00% $ 500,000 $ 25.00 Variable expense $ 300,000 $ 15.00 60.00% | $ 150,000 $ 7.50 Contribution margin $ 200,000 $ 10.00 40.00% $ 350,000 $ 17.50 Fixed expense $ 148,000 $ 238,000 Net operating income $ 52,000 $ 112,000 % 100.00% 30.00% 70.00%

Answer 5-c.

Yes, company should automate its operations.