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 (12,900 units × $30 per unit) $ 387,000 Variable expenses 232,200 Contribution margin 154,800 Fixed expenses 172,800 Net operating loss $ (18,000 ) 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 $6,200 increase in the monthly advertising budget, combined with an intensified effort by the sales staff, will result in an $81,000 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 $31,000 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 0.70 cents per unit. Assuming no other changes, how many units would have to be sold each month to attain a target profit of $4,400? 5. Refer to the original data. By automating, the company could reduce variable expenses by $3 per unit. However, fixed expenses would increase by $58,000 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 20,300 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 20,300)?

Answer 1

	contribution margin per unit=			154800/12900
				12
1)	CM ratio = contribution/sales
		154800/387000
		40.00%
	BEP(units) = total fixed cost/contribution margin per unit
		172800/12
		14400
	BEP(dollars) = 14400*30
		432000
	CM ratio			40%
	Break even point in units			14400
	Break even point in dollars			432000
2)	increase in contribution			(81000*40%)		32400
	less : increase in advertising budget					6,200
	increase in net income					26,200
	increases by		26,200
3)	units = 12900*2 =		25800 units ; selling price = 30*90%=$27
		Contribution Income statement
	Sales	(25,800*27)			696600
	Variable expense		(25800*18)		464400
	Contribution margin				232200
	Fixed expenses		(172800+31000)		203,800
	Net income				28,400
4)	New contribution margin = 12-.70
			11.3
	BEP(units) = (total fixed cost+target profit)/contribution per unit
		(172800+4400)/11.3
		15681.42
	Sales units		15,681
5)
	CM ratio = contribution/sales
		15/30
		50.00%
	BEP(units) = total fixed cost/contribution margin per unit
		(172800+58000)/15
		15387
	BEP(dollars) =		230800/50%
		461600
	CM ratio			50%
	Break even point in units			15387
	Break even point in dollars			461600
			20300
b)			Not Automated			Automated
			total	per unit	%	total	per unit	%
	Sales		609000	30	100%	609000	30	100%
	Variable expenses		365400	18	60%	304500	15	50%
	Contribution margin		243600	12	40%	304500	15	50%
	Fixed expenses		172,800			230,800
	Net operating income		70,800			73,700
c)		yes