Question

Due to erratic sales of its sole product—a high-capacity battery for laptop computers—PEM, Inc., has been experiencing difficulty for some time. The company’s contribution format income statement for the most recent month is given below:

Sales (13,000 units × $20 per unit)	$	260,000
Variable expenses		156,000
Contribution margin		104,000
Fixed expenses		116,000
Net operating loss	$	(12,000)

5. Refer to the original data. By automating, the company could reduce variable expenses in half. However, fixed expenses would increase by $57,000 each month.  

a. Compute the new CM ratio and the new break-even point in both unit sales and dollar sales. (Use the CM ratio to calculate your break-even point in dollars. Round your final answers to the nearest whole number.)           

b. Assume that the company expects to sell 20,500 units next month. Prepare two contribution format income statements, one assuming that operations are not automated and one assuming that they are.

c. Would you recommend that the company automate its operations?

Answer 1

Income Statement with revised data
Sales	260000
Less: Variable Expenses	78000
Contribution Margin	182000
Fixed Expenses	173000
Net Operating Income	9000
Answer a
Contribution Margin ratio =	Contribution Margin/Sales*100
=	182000/260000*100
=	70%
Breakeven in units=	Fixed cost/Contribution Margin Per Unit
=	173000/(20-6)
=	12357 Units (approx)
Breakeven in Dollors=	Fixed cost/Contribution Margin Ratio
=	173000/70%
=	247143 (approx)
Answer b
Income Statement	Original Data	Revised Data
Sales	410000	410000
Less: Variable Expenses	246000	123000
Contribution Margin	164000	287000
Fixed Expenses	116000	173000
Net Operating Income	48000	114000
Answer c
Company should automate its operations as by doing so it's net operating income will increase by 66000