Question

Due to erratic sales of its sole product—a high-capacity battery for laptop computers—PEM, Inc., has been experiencing financial difficulty for some time. The company’s contribution format income statement for the most recent month is given below:

Sales (13,100 units × $30 per unit)	$	393,000
Variable expenses		196,500
Contribution margin		196,500
Fixed expenses		219,000
Net operating loss	$	(22,500	)

Required:

1. Compute the company’s CM ratio and its break-even point in unit sales and dollar sales.

2. The president believes that a $6,700 increase in the monthly advertising budget, combined with an intensified effort by the sales staff, will result in an $87,000 increase in monthly sales. If the president is right, what will be the increase (decrease) in the company’s monthly net operating income?

3. Refer to the original data. The sales manager is convinced that a 10% reduction in the selling price, combined with an increase of $33,000 in the monthly advertising budget, will double unit sales. If the sales manager is right, what will be the revised net operating income (loss)?

4. Refer to the original data. The Marketing Department thinks that a fancy new package for the laptop computer battery would grow sales. The new package would increase packaging costs by 0.60 cents per unit. Assuming no other changes, how many units would have to be sold each month to attain a target profit of $4,100?

5. Refer to the original data. By automating, the company could reduce variable expenses by $3 per unit. However, fixed expenses would increase by $55,000 each month.

a. Compute the new CM ratio and the new break-even point in unit sales and dollar sales.

b. Assume that the company expects to sell 20,200 units next month. Prepare two contribution format income statements, one assuming that operations are not automated and one assuming that they are. (Show data on a per unit and percentage basis, as well as in total, for each alternative.)

c. Would you recommend that the company automate its operations (Assuming that the company expects to sell 20,200)?

Compute the company’s CM ratio and its break-even point in unit sales and dollar sales. (Do not round intermediate calculations.)

Answer 1

	contribution margin per unit=			196500/13100
				15
1)	CM ratio = contribution/sales
		196500/393000
		50.00%
	BEP(units) = total fixed cost/contribution margin per unit
		219000/15
		14600
	BEP(dollars) = 14600*30
		438000
	CM ratio			50%
	Break even point in units			14600
	Break even point in dollars			438000
2)	increase in contribution			(87000*50%)		43500
	less : increase in advertising budget					6,700
	increase in net income					36,800
	increases by		36,800
3)	units = 13100*2 =		26200 units ; selling price = 30*90%=$27
		Contribution Income statement
	Sales	(26200*27)			707400
	Variable expense		(26200*15)		393000
	Contribution margin				314400
	Fixed expenses		(219000+33000)		252,000
	Net income				62,400
4)	New contribution margin = 15-.60
			14.4
	BEP(units) = (total fixed cost+target profit)/contribution per unit
		(219000+4100)/14.4
		15493.06
	Sales units		15,493
5)
	CM ratio = contribution/sales
		18/30
		60.00%
	BEP(units) = total fixed cost/contribution margin per unit
		(219000+55000)/18
		15222
	BEP(dollars) =		274000/60%
		456667
	CM ratio			60%
	Break even point in units			15222
	Break even point in dollars			456667
			20200
b)			Not Automated			Automated
			total	per unit	%	total	per unit	%
	Sales		606000	30	100%	606000	30	100%
	Variable expenses		303000	15	50%	242400	12	40%
	Contribution margin		303000	15	50%	363600	18	60%
	Fixed expenses		219,000			274,000
	Net operating income		84,000			89,600
c)		yes