Question

Magic Realm, Inc., has developed a new fantasy board game. The company sold 40,000 games last year at a selling price of $69 per game. Fixed expenses associated with the game total $720,000 per year, and variable expenses are $49 per game. Production of the game is entrusted to a printing contractor. Variable expenses consist mostly of payments to this contractor.

Required:

1-a. Prepare a contribution format income statement for the game last year.

1-b. Compute the degree of operating leverage.

2. Management is confident that the company can sell 48,800 games next year (an increase of 8,800 games, or 22%, over last year). Given this assumption:

a. What is the expected percentage increase in net operating income for next year?

b. What is the expected amount of net operating income for next year? (Do not prepare an income statement; use the degree of operating leverage to compute your answer.)

Answer 1

1) a	Magic Realm, Inc.,
	Contribution Income Statement
		Total	Per Unit
	Sales Revenue	2,760,000	69
	Less: variable cost	1,960,000	49
	Contribution	800,000	20
	Less: Fixed cost	720,000
	profit	80,000
1) b	Operating Leverage = (Sales - variable cost)/ PROFIT
	=800000/80000
	10.0
2) a	It means that If sales is increase by 10% profit/Net operating income will increase by 100%
	and if SALES is increase by 22% than NOI will increase by 220%.
2) b	Magic Realm, Inc.,
	Contribution Income Statement
		Total	Per Unit
	Sales Revenue	3367200	69
	Less: variable cost	2391200	49
	Contribution	976000	20
	Less: Fixed cost	720,000
	Net income	256000