Question

Professor O’Brien realized his dream and opened O’Brien Vineyards. At this point, he only produces a Pinot Noir but hopes to add a new wine next year. Since he has been focused on wine making, he has not been able to keep up with the managerial accounting responsibilities. Can you help him? Here is the info you’ll need:
O’Brien Vineyards contribution format income statement for September.
Sales
504,000
Variable Expenses
215,525
Fixed Expenses
91,250
Net Operating Income
197,225
O’Brien Vineyards has no beginning or ending inventories. The company produced and sold 21,000 bottles last month. Price per bottle is $24.00.
(each worth 1 point)
a. What is O’Brien Vineyards contribution margin?
b. What is O’Brien Vineyards contribution margin per unit?
c. What is O’Brien Vineyards contribution margin ratio?

d. What is O’Brien Vineyards break-even sales in dollars?
e. What is O’Brien Vineyards break-even sales in units?
f. How many units would O’Brien Vineyards have to sell to attain target profits of $167,000?
g. How many sales dollars would O’Brien Vineyards have to generate to attain target profits of $167,000?
h. What is O’Brien Vineyards margin of safety in dollars?
i. What is O’Brien Vineyards margin of safety in units?
j. What is O’Brien Vineyards degree of operating leverage?
k. Based on the degree of operating leverage calculated in “j” above, if sales increased by 12%, what would be the expected increase in net operating income?

l. Marketing Manager Corbin O’Brien is encouraging me to advertise aggressively. He believes if we advertise on the Food Network during the holiday season, we would increase sales by 12%. Cost would be $27,000. Is this something I should consider? Please show your calculations to support your recommendation. If your decision goes against the numbers indicate why.
m. Production Manager Brant O’Brien believes I should use better quality grapes to make my wine. In doing so, variable cost would increase by $2.00 per bottle. Sales in bottles would increase by 385. Is this something I should consider? Please show your calculations to support your recommendation. If your decision goes against the numbers indicate why.
n. O’Brien Vineyards has the opportunity to sell 150 cases (1,800 bottles) to Wegmans without disturbing sales to our regular customers or fixed expenses. What price should Sales Manager Heather Kelly quote Wegmans so that O’Brien Vineyards increases profits by $7,200.

Answer 1

Sales	504,000
Variable Expenses	215,525
Contribution Margin	288,475
Fixed Expenses	91,250
Net Operating income	197,225

a.Contribution Margin = $288,475

B. Contribution Margin per unit = $288,475/21,000 = $13.74

C. Contribution margin ratio = 13.74/24 = 57.25%

d. Break even sales in Dollars = Fixed costs/contribution margin ratio

= 91,250/57.25% = $159,389

e.Break Even Sales in Unit = Fixed Costs/Contribution Margin per Unit

Contribution Margin per Unit = 288,475/21,000 = 13.74

Break even point = 91,250/13.74 = 6,642 bottles

f. Target Profit = $167,000

Fixed Costs = $91,250

Target Contribution Margin = $258,250

Contribution Margin per Unit = $13.74

Number of Units required to be sold = 258,250/13.74

= 18,796 units

g. Sales Dollars = 18,796*24 = $451,104

h. Margin of Safety = Sales – Break Even Sales in Dollars

= 504,000 – 6,642*24

= $344,592

i.Margin Of Safety in Units = 21,000 – 6,642 = 14,358 units

j.Degree of Operating Leverage = Contribution margin/Operating Income

= 288,475/197,225

1.46

k.Sales increase by 15%, Net Operating Income will increase by 15%*1.46

= 21.9%

l.Profit will be as follows:

Increased Sales 504,000*12%	60,480
Increased Variable Costs 215,525*12%	25,863
Increased Contribution Margin	34,617
Less: Costs	27,000
Additional Operating Income	7,617

Since there is additional profit, advertising should be done.

m.Evaluation:

Increase in Sales 385*24	9,240
Less: Variable Cost 215,525*385/21,000	3,951
Increase in Variable Cost for all the bottles 21,385*2	42,770
Increase/(Decrease) in Income	(37,481)

Since it would reduce the overall income, better quality grapes should not be used.

n.Desired Profits = $7,200

Fixed Costs –

Variable Costs 215,525*1,800/21,000 = $18,474

Desired Sales = $25,674