Question

Neptune Company has developed a small inflatable toy that it is anxious to introduce to its customers. The company’s Marketing Department estimates that demand for the new toy will range between 15,000 units and 30,000 units per month. The new toy will sell for $9.00 per unit. Enough capacity exists in the company’s plant to produce 20,000 units of the toy each month. Variable expenses to manufacture and sell one unit would be $5.00 , and incremental fixed expenses associated with the toy would total $32,000 per month.

Neptune has also identified an outside supplier who could produce the toy for a price of $4.00 per unit plus a fixed fee of $49,000 per month for any production volume up to 20,000 units. For a production volume between 20,001 and 45,000 units the fixed fee would increase to a total of $98,000 per month.

Required:

1. Calculate the break-even point in unit sales assuming that Neptune does not hire the outside supplier.

2. How much profit with Neptune earn assuming:

a. It produces and sells 20,000 units.

b. It does not produce any units and instead outsources the production of 20,000 units to the outside supplier and then sells those units to its customers.

3. Calculate the break-even point in unit sales assuming that Neptune plans to use all of its production capacity to produce the first 20,000 units that it sells and that it also commits to hiring the outside supplier to produce up to 10,000 additional units.

4. Assume that Neptune plans to use all of its production capacity to produce the first 20,000 units that it sells and that it also commits to hiring the outside supplier to produce up to 10,000 additional units.

a. What total unit sales would Neptune need to achieve in order to equal the profit earned in requirement 2a?

b. What total unit sales would Neptune need to achieve in order to attain a target profit of $50,500 per month?

c. How much profit will Neptune earn if it sells 30,000 units per month?

d. How much profit will Neptune earn if it sells 30,000 units per month and agrees to pay its marketing manager a bonus of 20 cents for each unit sold above the break-even point from requirement 3?

5. If Neptune outsources all production to the outside supplier, how much profit will the company earn if it sells 30,000 units?

1.	Break-even point in unit sales - without hiring		units
2a.	Profit if produces and sells
2b.	Profit if outsources production and sells
3.	Break-even point in unit sales - hiring		units
4a.	Total unit sales		units
4b.	Total unit sales to achieve a target Profit of $50,500		units
4c.	Net operating income
4d.	Net operating income - bonus to marketing manager
5.	Net operating income - fully outsourced

Answer 1

Solution 1:
Unit selling price	9.00
Less: Unit variable cost	5.00
Contribution margin per unit	4.00
Fixed expenses	32000
Divided by: Contribution margin per unit	4.00
Break-even point in unit sales	8000
Solution 2a:
Units produced and sold	20000
Contribution margin (units*Contribution margin per unit)	80000
Less: Fixed expenses	32000
Net profit	48000
Solution 2b:
Units purchased from outside supplier	20000
*Purchase price	4
Variable Purchase cost from outside supplier	80000
Sales revenue (units* sales price)	180000
Less: Variable Purchase cost	80000
Less: Fixed Fee	49000
Net profit	51000
Solution 3:
Total Fixed expenses (own + Fixed fee)	81000
Less: contribution from own production	80000
Contribution required from outside suppliers	1000
/ Contribution margin per unit from outside supplier ($9 -$4)	5.00
Units required to buy from outside supplier	200
Add: Units from own production	20000
Break-even point in unit sales	20200
Solution 4a:
Desired profit (as per requirement 2a)	48000
Add: Total Fixed expenses (own + fixed fee)	81000
Total contribution required	129000
Less: contribution from own production	80000
Contribution required from outside suppliers	49000
/ Contribution margin per unit from outside supplier ($9 -$4)	5.00
Units required to buy from outside supplier	9800
Add: Units from own production	20000
Unit sales required	29800
Solution 4b:
Desired profit	50500
Add: Fixed expenses	81000
Total contribution required	131500
Less: contribution from own production	80000
Contribution required from outside suppliers	51500
/ Contribution margin per unit from outside supplier ($9 -$4)	5.00
Units required to buy from outside supplier	10300
Add: Units from own production	20000
Unit sales required	30300
Solution 4c:
Contribution from own production	80000
Contribution margin from outside suppliers (10000*5)	50000
Total contribution	130000
Less: fixed costs	81000
profit will Neptune earn if it sells 30,000 units per month	49000
Solution 4d:
profit will Neptune earn if it sells 30,000 units per month	49000
Less: commission paid to marketing manager [(30000-20200)*0.20]	1960
Net profit after commission paid	47040
Solution 5:
Sales units	30000
/ Contribution margin per unit from outside supplier ($9 -$4)	5.00
Contribution margin	150000
Less: Fixed expenses	98000
Net profit	52000