Question

Due to erratic sales of its sole product—a high-capacity battery for laptop computers—PEM, Inc., has been experiencing financial difficulty for some time. The company’s contribution format income statement for the most recent month is given below: Sales (12,700 units × $30 per unit) $ 381,000 Variable expenses 190,500 Contribution margin 190,500 Fixed expenses 213,000 Net operating loss $ (22,500 ) Required: 1. Compute the company’s CM ratio and its break-even point in unit sales and dollar sales. 2. The president believes that a $6,100 increase in the monthly advertising budget, combined with an intensified effort by the sales staff, will result in an $82,000 increase in monthly sales. If the president is right, what will be the increase (decrease) in the company’s monthly net operating income? 3. Refer to the original data. The sales manager is convinced that a 10% reduction in the selling price, combined with an increase of $32,000 in the monthly advertising budget, will double unit sales. If the sales manager is right, what will be the revised net operating income (loss)? 4. Refer to the original data. The Marketing Department thinks that a fancy new package for the laptop computer battery would grow sales. The new package would increase packaging costs by $0.50 per unit. Assuming no other changes, how many units would have to be sold each month to attain a target profit of $4,800? 5. Refer to the original data. By automating, the company could reduce variable expenses by $3 per unit. However, fixed expenses would increase by $50,000 each month. a. Compute the new CM ratio and the new break-even point in unit sales and dollar sales. b. Assume that the company expects to sell 20,700 units next month. Prepare two contribution format income statements, one assuming that operations are not automated and one assuming that they are. (Show data on a per unit and percentage basis, as well as in total, for each alternative.) c. Would you recommend that the company automate its operations (Assuming that the company expects to sell 20,700)?

Answer 1

PEM Inc.
Contribution Margin Income statement
Details	Total Amount	Unit Price
Units sold	12,700
Sales Revenue	381,000	30.00
Less variable Expense	190,500	15.00
Contribution Margin	190,500	15.00
CM Ratio=Contribution/Sales	50%		Ans 1
Fixed Expenses	213,000
Break Even Sales =Fixed Exp/CM Ratio=	426,000
Break Even Units =BE Sales/Sales price=	14,200		Ans 1

Ans 2
Revised Income statement
Details	Total Amount	Remarks
Sales Revenue	463,000	Additionalk 82K sales
Less variable Expense	231,500	@50% of sales
Contribution Margin	231,500
Fixed cost	219,100	additional 6100 Adv exp
Net Operating Income	12,400
Previous Net Oiperating Income/(Loss)	(22,500)
Increase in Net operating income	34,900		Ans2

Ans 3
Details	Total Amount	Unit Price	Remarks
Units sold	25,400		Unit sales doubled
Sales Revenue	685,800	27	10% reduction in sales price
Less variable Expense	381,000	15
Contribution Margin	304,800
Fixed Expense	245,000		+32K Adv expense
Net Operating Income	59,800
Previous Net Oiperating Income/(Loss)	(22,500)
Increase in Net operating income	82,300

Ans 4.
Existing Contribution /Unit	15
Revised Contribution/unit if packaging cost increases $0.50/unit	14.5
Fixed Expenses	213,000
Target Margin	4,800
Required Contribution=213000+4800=	217,800
Required sales unit =217800/14.5=	15,021	Ans 4.

Ans 5.
Details	Total Amount	Unit Price
Units sold	12,700
Sales Revenue	381,000	30.00
Less variable Expense	152,400	12.00
Contribution Margin	228,600	18.00
CM Ratio=Contribution/Sales	60.0%
Fixed Expenses	263,000
Break Even Sales =Fixed Exp/CM Ratio=	438,333
Break Even Units =BE Sales/Sales price=	14,611		Ans 5a

Ans 5b
Contribution Margin Income statement	Operation Automated		Operation not Automated
Details	Total Amount	Unit Price	Total Amount	Unit Price
Units sold	20,700		20,700
Sales Revenue	621,000	30.00	621,000	30.00
Less variable Expense	248,400	12.00	310,500	15.00
Contribution Margin	372,600	18.00	310,500.00	15.00
Fixed Expenses	263,000		213,000.00
Net Operating Income	109,600		97,500.00

Ans 5c
The opration should be automated as it increases net operating income by $12100