Question

Heli Manufacturing produces headphones and has been suffering from heightened competition. The following tables highlights the results of Heli’s operations for 2019:

Sales (12500 units @ $84)	$ 1 050 000
Variable (12 500 @ $63)	787 500
Contribution Margin	$   262 500
Fixed Costs	296 100
Operating Profit (loss)	($ 33 600)

Required:

1. Compute Heli’s breakeven point in both units and dollars.
2. (1 mark) Compute the contribution margin ratio.
3. What will be the required sales, in both units and dollars, to generate a pre-tax profit of $30 000.
4. Prepare a contribution margin income statement for sales of 16,481 units.
5. Refer to the original data. The Vice President, Marketing feels that a 10% reduction in price, in combination with a $40 000 increase in advertising will cause sales to increase by 25%. What effect would this strategy have on operating profit (loss)?

Answer 1

Details	Amount per unit	Units	Total
Sales	84	12500	1050000
Variable cost	63	12500	787500
Contribution	21	12500	262500

(a) BREAK EVEN POINT

In Units = Fixed Cost / Contribution Per Unit

= 296100 / 21

= 14,100 Units

In Dollars = 14,100 units X $ 84

= $ 1,18,440

   OR

In Dollars = Fixed Cost / Contribution margin ratio

= 296100 / 25%

= $ 1,184,400

(b) CONTRIBUTION MARGIN RATIO

Contribution margin ratio = Contribution ( in units ) / sales ( in units )

= 21 / 84

= 0.25 or 25 %

OR

Contribution margin ratio = Contribution ( in dollars ) / sales ( in dollars )

= 262,500 / 1,050,000

= 0.25 or 25 %

(c)  Required sales, in both units and dollars, to generate a pre-tax profit of $30,000.

Required sales ( units ) = ( Fixed cost + Required Profit) / Contribution per unit

= (296,100 + 30,000) / 21

= 15,529 Units

Required sales (Dollars) = ( Fixed cost + Required Profit) / Contribution Margin Ratio  

= (296,100 + 30,000) / 25%

=  $ 1,304,400

(d) Contribution margin income statement for sales of 16,481 units

Details	$ per unit	Units	Total
Sales	84	16,481.00	1,384,404.00
Less : Variable cost	63	16,481.00	1,038,303.00
Contribution	21	16481	346,101.00
Less :Fixed Cost			296,100.00
Net Profit			50,001.00

(d) Changes to operating profit if the strategy is implemented

New Sale Price = 84 - 10% = $75.60

Expected Sales = 12,500 + 25 % = 15,625 units

Changes		Proposed			Existing
Details	$/unit	Units	Total		Total
Sales	75.60	15,625.00	1,181,250.00		1,050,000.00
Variable cost	63.00	15,625.00	984,375.00		787,500.00
Contribution	12.60		196,875.00		262,500.00
Fixed Cost			336,100.00		296,100.00
Net Income			(139,225.00)		(33,600.00)

The strategy if implemented would lead to a loss of $139,225 from the existing loss of $ 33,600.

The reason for the loss

- With the reduced sales price the contribution per unit falls to $ 12.60.

- Also the fixed cost hase increased by $40,000 to $336,100.

- In order to break even the entity should sell atleast 26,675 units. ( $336100/ $12.60)

- In order to earn atleast the same contribution of the existing situation the sales should be 20,833 units.

(20,833 units = 262500 / $12.60)

- However the enitity is selling only 15,625 units even after the increase in sales.

- This has led to the increase in losses