Question

Deshi Industries plans to manufacture gas stoves and the following information is applicable:

Estimated sales for the year	3 000 units at R 450 each
Estimated costs for the year:
Variable costs	R320 per unit
Factory overheads (all fixed)	R80 000
Administrative expenses (all fixed)	R30 000

1.1       Calculate the:

> Total operating profit for the estimated figures.   

> Break-even quantity   

> Break-even value

> Margin of safety in units.   

> Target sales volume to achieve a profit of R50 000.   

1.2       The sales manager is of the opinion that a greater profit will be made if the selling price is decreased by 10% as sales volume will then increase by 10%. Calculate the total operating profit at the new selling price and advice management whether to implement this suggestion.                                                                                                                                               (4)

Note: All workings must be shown and all answers must be typed in.

Answer 1

1.1

1 Total operating profit

Particulars	$
Sales (3000×450)	1,350,000
Less variable cost (3000×320)	960,000
Contribution margin	390,000
Factory overhead	80,000
Administrative expenses	30,000
Operating profit	280,000

Total operating profit is $280,000

2 Break even quantity = fixed cost / contribution margin per unit

Contribution margin per unit = 390,000 / 3,000 = 130

Break even quantity = 110,000 / 130 = 846 units

3 Break even value = Break even quantity × selling price

Break even value = 846 × 450 = $380,700

4 margin of safety = actual sales - break even sales

Margin of safety = 1,350,000 - 380,700 = $969,300

5 Target sales volume to achieve a profit of $50,000

= (fixed cost + desired profit) / contribution margin per unit

= (110000 + 50000) / 130 = 1231 units

In value = 1231 × 450 = $553,950

1231 units sold to get a profit of $50,000. In sales value is $553,950.

1.2

New selling price = 450 - 10% = $405

New selling quantity = 3,000 + 10% = 3,300 units

Particulars	$
Sales (3300×405)	1,336,500
Less variable cost (3300×320)	1,056,000
Contribution margin	280,500
Factory overheads	80,000
Administrative expenses	30,000
Operating profit	170500

This suggestion is reducing operating profit by $109,500 (280,000 - 170500). The above calculations clearly prove this suggestion is not good for Deshi Industries.

The above are the detailed calculations,equations and explanations.