Question

Contribution Margin, Break-Even Sales, Cost-Volume-Profit Chart, Margin of Safety, and Operating Leverage

Belmain Co. expects to maintain the same inventories at the end of 20Y7 as at the beginning of the year. The total of all production costs for the year is therefore assumed to be equal to the cost of goods sold. With this in mind, the various department heads were asked to submit estimates of the costs for their departments during the year. A summary report of these estimates is as follows:

		Estimated Fixed Cost			Estimated Variable Cost (per unit sold)
Production costs:
	Direct materials	—			$26
	Direct labor	—			17
	Factory overhead	$530,800			13
Selling expenses:
	Sales salaries and commissions	110,300			6
	Advertising	37,300			—
	Travel	8,300			—
	Miscellaneous selling expense	9,100			5
Administrative expenses:
	Office and officers' salaries	107,800			—
	Supplies	13,300			2
	Miscellaneous administrative expense	12,540			3
	Total	$829,440			$72

It is expected that 6,480 units will be sold at a price of $360 a unit. Maximum sales within the relevant range are 8,000 units.

Required:

1. Prepare an estimated income statement for 20Y7.

Belmain Co.
Estimated Income Statement
For the Year Ended December 31, 20Y7
Sales			$
Cost of goods sold:
Direct materials		$
Direct labor
Factory overhead
Total cost of goods sold
Gross profit			$
Expenses:
Selling expenses:
Sales salaries and commissions	$
Advertising
Travel
Miscellaneous selling expense
Total selling expenses		$
Administrative expenses:
Office and officers' salaries	$
Supplies
Miscellaneous administrative expense
Total administrative expenses
Total expenses
Operating income			$

2. What is the expected contribution margin ratio? Round to the nearest whole percent.
%

3. Determine the break-even sales in units and dollars.

Units	units
Dollars	$

4. Construct a cost-volume-profit chart on your own paper. What is the break-even sales?
$

5. What is the expected margin of safety in dollars and as a percentage of sales?

Dollars:	$
Percentage: (Round to the nearest whole percent.)		%

6. Determine the operating leverage. Round to one decimal place.

Answer 1

Answer to Part (a):

Belmain Co.

Estimated Income Statement

for the year ended December 31, 20Y7

Particulars	Amount($)
Sales (6,480 * 360) [A]	2,332,800
Cost of Goods Sold:
Direct Materials (6,480 * 26)	168,480
Direct Labor ( 6,480 * 17)	110,160
Factory Overhead ( 530,800 + 6480*13)	615,040
Total Cost of goods sold [B]	893,680
Gross Profit [ A-B]	1,439,120
Expenses:
Selling Expenses
Sales salaries and commissions ( 110,300 + 6480 * 6)	149,180
Advertising	37,300
Travel	8,300
Miscellaneous selling expense ( 9100 + 6480 * 5)	41,500
Total Selling expenses [C]	236,280
Administrative Expenses:
Office and Officer's Salaries	107,800
Supplies (13,300 + 6480*2)	26,260
Miscellaneous administrative expenses(12,540+6480*3)	19,440
Total administrative expenses [D]	153,500
Total expenses [C+D] = E	389,780
Operating Income (Gross Profit - E)	1,049,340

Answer to Part (b):

Expected Contribution Margin Ratio:

Contribution Margin = Sales - Variable Expenses = $ 360 - $ 72 = $ 288

Contribution Margin Ratio = Contribution Margin/ Sales = 288/360 = 80%

Answer to Part (c):

Break even sales in units and dollars:

Break even sales in units = Fixed expenses/ Contribution margin per unit = $ 829,400/288

Break even sales in units = 2880 units

Break even sales in dollars = 2880 units * 360 = $ 1,036,800

Answer to Part (d):

Break even sales = $ 1,036,800

Answer to Part (e):

Margin of safety as a percentage of sales:

Margin of safety = Actual sales - Break even sales = 2,332,800 - 1,036,800 = $ 1,296,000

Margin of safety as a percentage of sales = Margin of safety/ sales = 1,296,000/2,332,800 = 56%

Answer to Part (f):

Operating Leverage:

Operating leverage = Contribution margin/ Income from operations

Operating leverage = (6,480 *288)/1,049,340 = 1,866,240/1,049,340 = 1.78