Question

Meta Company’s current level of sales and profitability is the subject of management analysis. The company’s selling price is $60, 40% cost ratio and $65,000 in fixed costs at its current volume of 5,000 units sold.

Required:
1. The marketing manager proposes to increase the selling price by 10% and decrease variable costs by 5% with an expected 8% increase in sales volume. How much is the net operating income under this scenario?

2. The chief finance officer proposes cost reduction strategies that will bring down variable cost ratio to 32% and decrease fixed costs by 20%. How much is the net operating income under this scenario?

Answer 1

1.

Increase in selling price per unit = 10%

Decrease in variable cost per unit = 5%

Increase in sales volume = 8%

Selling price per unit = $60

Variable cost per unit = 40% of selling price per unit

= 60 x 40%

= $24

Sales volume = 5,000 units

Fixed costs = $65,000

New selling price per unit = 60 x 110%

= $66

New variable cost per unit = 24 x 95%

= $22.8

New sales volume = 5,000 x 108%

= 5,400 units

Income Statement
Sales (5,400 x 66)	356,400
Variable costs (5,400 x 22.8)	-123,120
Contribution margin	233,280
Fixed costs	-65,000
Net operating income	$168,280

2.

Variable cost ratio = 32%

Variable cost per unit = 32% of selling price per unit

= 60 x 32%

= $19.2

Decrease in fixed cost = 20%

= 65,000 x 20%

= 13,000

New fixed cost = 65,000-13,000

= $52,000

Income Statement
Sales (5,000 x 60)	300,000
Variable costs (5,000 x 19.2)	-96,000
Contribution margin	204,000
Fixed costs	-52,000
Net operating income	$152,000