Question

Contribution Margin, Break-Even Sales, Cost-Volume-Profit Chart, Margin of Safety, and Operating Leverage

Belmain Co. expects to maintain the same inventories at the end of 20Y7 as at the beginning of the year. The total of all production costs for the year is therefore assumed to be equal to the cost of goods sold. With this in mind, the various department heads were asked to submit estimates of the costs for their departments during the year. A summary report of these estimates is as follows:

		Estimated Fixed Cost			Estimated Variable Cost (per unit sold)
Production costs:
	Direct materials				$24
	Direct labor				16
	Factory overhead	$443,500			12
Selling expenses:
	Sales salaries and commissions	92,200			5
	Advertising	31,200
	Travel	6,900
	Miscellaneous selling expense	7,600			4
Administrative expenses:
	Office and officers' salaries	90,100
	Supplies	11,100			2
	Miscellaneous administrative expense	10,400			3
	Total	$693,000			$66

It is expected that 7,000 units will be sold at a price of $264 a unit. Maximum sales within the relevant range are 9,000 units.

Required:

1. Prepare an estimated income statement for 20Y7.

Belmain Co.
Estimated Income Statement
For the Year Ended December 31, 20Y7
			$
Cost of goods sold:
		$
Total cost of goods sold
Gross profit			$
Expenses:
Selling expenses:
	$
Total selling expenses		$
Administrative expenses:
	$
Total administrative expenses
Total expenses
Income from operations			$

2. What is the expected contribution margin ratio? Round to the nearest whole percent.
%

3. Determine the break-even sales in units and dollars.

Units	units
Dollars	units

4. Construct a cost-volume-profit chart on your own paper. What is the break-even sales?
$

5. What is the expected margin of safety in dollars and as a percentage of sales?

Dollars:	$
Percentage: (Round to the nearest whole percent.)		%

6. Determine the operating leverage. Round to one decimal place.

Answer 1

1	Estimated income statement for 20Y7
	Sales		$1,848,000
	Cost of goods sold:
	Direct Material	$168,000
	Direct labor	$112,000
	Factory overhead	$527,500
	Total cost of goods sold		$807,500
	Gross Profit		$1,040,500
	Expenses:
	Selling Expenses:
	Sales Salaries and commissions	$127,200
	Advertising	$31,200
	Travel	$6,900
	Miscellaneous selling expenses	$35,600
	Total selling expenses		$200,900
	Administrative expenses:
	Office and officers' salaries	$90,100
	Supplies	$25,100
	Miscellaneous administrative expenses	$31,400
	Total administrative expenses		$146,600
	Total expenses		$347,500
	Income from operations		$693,000
2	Contribution Margin Ratio
	Sales price	$264
	Variable cost	$66
	Contribution Margin	$198
	Contribution Margin Ratio (198/264)	75%
3	Breakeven sales in units and dollars
	Break even sales in units = Fixed cost/contribution margin per unit
	= $693000/$198
	= 3500 units
	Breakeven sales in dollars = Fixed costs/Contribution margin ratio
	= $693000/75%
	= $924000
4	Cost volume profit chart
5	Margin of safety
	Margin of safety =(Estimated sales-breakeven sales)/Estimated sales
	=(1848000-924000)/1848000
	=50%
	Margin of safety in dollars = 1848000-924000
	= $924000
6	Operating Leverage
	Operating Leverage = Contribution Margin/Net operating income
	(7000*$198)/$693000
	= $1386000/$693000
	= 2