Question

Required information [The following information applies to the questions displayed below.) Data for Hermann Corporation are shown below: Selling price Variable expenses Contribution margin Per Unit $ 90 63 $ 27 Percent of Sales 100% 70 30% Fixed expenses are $78,000 per month and the company is selling 3,500 units per month. 2-a. Refer to the original data. How much will net operating income increase (decrease) per month if the company uses higher-quality components that increase the variable expense by $4 per unit and increase unit sales by 20%. 2-b. Should the higher-quality components be used? Complete this question by entering your answers in the tabs below. Req 2A Req 2B Refer to the original data. How much will net operating income increase (decrease) per month if the company uses higher- quality components that increase the variable expense by $4 per unit and increase unit sales by 20%. Net operating income by

Answer 1

2-a.

Income Statement ( Current)
Sales ( 3,500 x 90)	315,000
Variable cost ( 3,500 x 63)	220,500
Contribution Margin	$94,500
Fixed cost	-78,000
Net Operating Income	$16,500

Proposed changes with higher quality components :

Increase in variable cost = $4 per unit

Variable cost per unit will become = 63+4

= $67

Increase in sales units = 20%

= 3,500 x 20%

= 700

Sales quantity will become = 3,500+700

= 4,200 units

Income Statement ( Proposed)
Sales ( 4,200 x 90)	378,000
Variable cost ( 4,200 x 63)	264,600
Contribution Margin	$113,400
Fixed cost	-78,000
Net Operating Income	$35,400

Net operating income Increase by $18,900.

2-b.

Higher quality components should be used since it will increase net operating income by $18,900.

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