Question

Exercise 5-17 Break-Even and Target Profit Analysis [LO5-4, LO5-5, LO5-6]

Outback Outfitters sells recreational equipment. One of the company’s products, a small camp stove, sells for $140 per unit. Variable expenses are $98 per stove, and fixed expenses associated with the stove total $189,000 per month.

Required:

1. What is the break-even point in unit sales and in dollar sales?

2. If the variable expenses per stove increase as a percentage of the selling price, will it result in a higher or a lower break-even point? (Assume that the fixed expenses remain unchanged.)

3. At present, the company is selling 10,000 stoves per month. The sales manager is convinced that a 10% reduction in the selling price would result in a 25% increase in monthly sales of stoves. Prepare two contribution format income statements, one under present operating conditions, and one as operations would appear after the proposed changes.

4. Refer to the data in Required 3. How many stoves would have to be sold at the new selling price to attain a target profit of $73,000 per month?

Answer 1

Selling price per unit = $140

Variable expenses = $98

Contribution = Sales - Variable Cost = $140 - $98 = $42

Fixed expenses = $189,000

1. BEP in unit sales = Fixed Cost / Contribution per unit = 189,000 / 42 = 4,500 units

BEP in dollar sales = (Fixed Cost / Contribution per unit ) * Selling price per unit = (189,000 / 42) * 140 = $630,000

2. If the variable expenses per stove increases as a percentage of the selling price, then the contribution margin will decrease (Sales remaining same and varaible expenses increasing). As a result, BEP will increase.

3. Contribution Format income statements:

DETAILS	10,000 stoves, SP per unit = $140	12,500 stoves(10,000 + 25%), SP per unit = $126(140 - 10%)
Sales	$1,400,000	$1,575,000
Less: Variable expenses @ $98 per stove	($980,000)	($1,225,000)
Contribution	$420,000	$350,000

4. Target sales volume = Total fixed costs + Target Income / Contribution margin per unit

= (189,000 + 73,000) / 42 = 6,238 units