Question

Scenario: Mary Willis is the advertising manager for Bargain Shoe Store. She is currently working on a major promotional campaign. Her ideas include the installation of a new lighting system and increased display space that will add $24,000 in fixed costs to the $270,000 in fixed costs currently spent. In addition, Mary is proposing a 5% price decrease ($40 to $38) will produce a 20% increase in sales volume (20,000 to 24,000). Variable costs will remain at $24 per pair of shoes. Management is impressed with Mary's ideas but concerned about the effects these changes will have on the break-even point and the margin of safety.

Complete the following:

Compute the current break-even point in units, and compare it to the break-even point in units if Mary's ideas are used.

Compute the margin of safety ratio for current operations and after Mary's changes are introduced (Round to nearest full percent).

Prepare a CVP (Cost-Volume-Profit) income statement for current operations and after Mary's changes are introduced.

Prepare a maximum 250-word paper including the answers to the questions above with supporting calculations for management addressing Mary's suggested changes. Explain whether Mary's changes should be adopted. Why or why not? Analyze the above information (three bullet points above) and use this information to support your suggestion.

Answer 1

a) Current BEP in Units
BEP in Units = Fixed Cost/ SP - VC
BEP in Units = $270,000/ $40 - $24	16875	Pairs of shoes
b) New break-even point:
BEP in Units = $270,000 + $24,000 / $38- $24	21000	Pairs of shoes
c) Current margin of safety ratio = ((20,000 units x $40) - (16,875 units x $40))/(20,000 units x $40	15.63%
d)
d) New margin of safety ratio = ((24,000 units x $38) - (21000 units x $38))/(24,000 units x $38	12.50%
e)
CVP (Cost-Volume-Profit) income statement
	Current	Changes
Sales	$800,000.00	$912,000.00
Variable Expenses	$480,000.00	$576,000.00
Contribution Margin	$320,000.00	$336,000.00
Less: Fixed Cost	$270,000.00	$294,000.00
Net Income/(Loss)	$50,000.00	$42,000.00
Mary's changes should not be adopted because
1) It reduced the net income
2) It increased the fixed cost.