Question

Feather Friends, Inc., distributes a high-quality wooden birdhouse that sells for $80 per unit. Variable expenses are $40.00 per unit, and fixed expenses total $200,000 per year. Its operating results for last year were as follows: Sales $ 2,160,000 Variable expenses 1,080,000 Contribution margin 1,080,000 Fixed expenses 200,000 Net operating income $ 880,000 Required: Answer each question independently based on the original data: 1. What is the product's CM ratio? 2. Use the CM ratio to determine the break-even point in dollar sales. 3. If this year's sales increase by $47,000 and fixed expenses do not change, how much will net operating income increase? 4-a. What is the degree of operating leverage based on last year's sales? 4-b. Assume the president expects this year's sales to increase by 14%. Using the degree of operating leverage from last year, what percentage increase in net operating income will the company realize this year? 5. The sales manager is convinced that a 11% reduction in the selling price, combined with a $62,000 increase in advertising, would increase this year's unit sales by 25%. a. If the sales manager is right, what would be this year's net operating income if his ideas are implemented? b. Do you recommend implementing the sales manager's suggestions? 6. The president does not want to change the selling price. Instead, he wants to increase the sales commission by $2.10 per unit. He thinks that this move, combined with some increase in advertising, would increase this year's sales by 25%. How much could the president increase this year's advertising expense and still earn the same $880,000 net operating income as last year? Do not prepare an income statement; use the incremental analysis approach.

Answer 1

Req 1.
Selling price per unit			80
Less: variable cost per unit			40
Unit contribution			40
Divide: Selling price			80
CM ratio			50%
Req 2.
Break even $:
Fixed cost			200000
Divide: CM ratio			50%
Break even salaes in $			400000
Req 3.
Increase in Sales			47000
CM ratio			50%
Increase in Contribution			23500
Less: Increase in Fixed cost			0
Increase in Profits			23500
Req 4.
Degree of operating leverage: Contribution/ Income
			1080000/880000 = 1.23
Increase in sales by		14%
Operating leverage		1.23
Increase in Profits		17.22%
Req 5.
Number of sales unints (2160000/80):				27000
Revised sales unit (27000+25%)				33750
Revised selling price (80-11%)				71.2
Revised CM per unit (71.2-40)				31.2
Contribution earned (33750*31.2)				1053000
Less: Fixed cost				200000
Less: Advertisement expenses				62000
Net income				791000
No, it is not recommended as Income has been declined.
Req 6.
Revised sales units:				33750
Revised CM per unit (80-42.10)				37.9
Contribution earned				1279125
Contribution actually earned				1080000
Increase in Advertisement expense				199125