Question

Yacca Limited has prepared the following profit analysis, for the current financial year:

Sales (150,000 units). $1,275,000

Variable expenses. $712,500

Contribution margin. $562,500

Fixed expenses $252,000

Profit. $310,500

Management are considering a range of options to improve profitability. These options include reducing the selling price by $0.15 per

unit and updating machinery and production methods. If machinery and production methods are updated, fixed expenses will

increase by $72,000 per year and variable expenses will decrease by $1.40 per unit. However, management are concerned at the

increased risk from changes to the level of operating gearing. If the selling price is reduced by $0.15 per unit, the number of units sold

is expected to increase by 5%. There is no reason why management cannot reduce the selling price and update machinery and

production at the same time.

Required:

a)

Calculate the contribution margin per unit, total fixed costs, the breakeven point in units, and total expected

profit for all of the possible choices that management can make. Present the results of your calculations in a

table. Do not include formulas in your write-up.

b)Complete the following table, showing expected profit at various sales levels for (i) the current state of

operations (no changes) and (ii) the case where machinery and production methods are updated:

Sales (units) 0 50,000 100,000 150,000 200,000

Expected profit (no

change)

Expected profit

(machinery &

production methods

updated)

c)

Based on your results for part (b) produce a profit-volume chart. Show both cases on the same set of axes.

d)Based on your results to parts (a), (b) and (c), Report brief recommendation to management advising on the

recommended course of action.

Answer 1

a)At present level(Units 150,000)

Particular	Per unit Cost	Total cost
Sales	8.5	$1,275,000
Variable cost	4.75	$712,500
Contribution	3.75	$562,500
Less: Fixed cost	1.68	$252,000
Profit	2.07	310,500

Management is proposing to Decrease Selling price by 0.15$

fixed expenses will increase by $72,000 per year  and variable expenses will decrease by $1.40 per unit

the number of units sold is expected to increase by 5%..

At Proposed level(Units= 150,000+5%)=157,500 , Selling price = (8.5-0.15)= $8.35,Variable cost =(4.75-1.40)=3.35, Fixed cost = ($252,000+72000)=324,000

Particular	per unit cost	Total cost
Sales (157,500units *$8.35)	$8.35	$13,15,125
Less:Variable cost(157,500units* 3.35)	3.35	$5,27,625
Contribution	5	$787500
Less: Fixed cost	2.057	$324,000
Profit	2.94	463,500

It can be seen that there is an increase in the profit is the mangament Reduce the selling price by (463500-310500)=153000

Calculation of Break even point= (Fixed cost / Contribution per unit)= (324,000/5) = 64,800 units

Requirement   

Contribution per unit	$ 5
Total fixed cost	$324,000
Break even point	64,800 units

b)Calculation of expected profit at various sale level

(i) At current State

Sales Units A	50,000	100,000	150,000	200,000
Selling price per unit at current state B	$8.5	$8.5	$8.5	$8.5
Total Sales value C= (A*B)	425,000	850,000	12,75,000	17,00,000
Less variable cost D(A*4.75)	237,500	475,000	712,500	950,000
Contribution E (C-D)	187,500	375,000	562,500	750,000
Less Fixed cost F	252000	252000	252000	252000
Profit (E-F)	(64500)	123,000	310,500	498,000

II)AT proposed State

Sales Units A	50,000	100,000	150,000	200,000
Selling price per unit at current state B	$8.35	$8.35	$8.35	$8.35
Total Sales value C= (A*B)	417,500	835,000	12,52,500	16,70,000
Less variable cost D(A*3.35)	1,67,500	3,35,000	5,02,500	6,70,000
Contribution E (C-D)	250,000	500,000	750,000	10,00,000
Less Fixed cost F	324,000	324,000	324,000	324,000
Profit (E-F)	(74,000)	176,000	426,000	676,000

c)Profit Volume Ratio is a relatonship between Sales and contribution and it is usually expressed as a percentage.This ratio shows amount of contribution per rupees of sales made by the company

PVR = (Contribution / sales *100)

Particular	Current state	Proposed State
Contribution (a)	$562,500	787,500
Sales (b)	$1,275,000	$13,15,125
PV ratio a/b*100	44.12%	60%

d)Recommendation for the management

Particular	Current state	Proposed State
Profit	$310,500	$463,500
PV ratio	44.12%	60%
Units to be produced	200,000 units	200,000 units

REPORT:1) It can be seen that the company is having more profit and PVR at the proposed state, so it is advisable for the management to reduce the selling price, and hence the profit would be increased.

2)It is advisable for the company to produce 200,000 units as the profit is highest at 200,000 units.

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