Question

Luke Corporation produces a variety of products, each within their own division. Last year, the managers at Luke developed and began marketing a new chewing gum, Bubbs, to sell in vending machines. The product, which sells for $5.15 per case, has not had the market success that managers expected and the company is considering dropping Bubbs.

The product-line income statement for the last month follows:

Revenue				$	1,345,180
Costs
Production costs				$	(1,280,451)
Product-line margin				$	64,729
Allowance for tax (@20%)					(12,945.80)
Product-line profit (loss)				$	51,783.20

Roy O. Andre, the product manager for Bubbs, is concerned about whether the product will be dropped by the company and has employed you as a financial consultant to help with some analysis. In addition to the information given, Mr. Andre provides you with the following data on production costs for Bubbs for the past 12 months:

Month	Cases	Production Costs
1	211,000	$1,147,828
2	219,200	1,169,328
3	216,900	1,177,981
4	232,000	1,193,523
5	239,900	1,195,827
6	241,000	1,216,673
7	222,200	1,191,699
8	249,200	1,234,774
9	240,800	1,233,226
10	254,600	1,245,325
11	252,200	1,249,760
12	261,200	1,280,451

Assume that the relevant range of production is between 150,000 and 350,000 cases.

Required: Respond to the following questions.

1. How many cases of Bubbs does Luke have to sell in a single month in order to break even on the product?

• Use Regression in Excel to find the fixed and variable portions of the production costs.
  • Cases will be the X variable and Production Costs will be the Y variable.
  • Produce a line-fit plot with the regression output and with axes correctly labeled.
  • Submit your Excel file as part of the assignment.
• Round the variable cost per unit and total fixed cost you find in the regression to two decimal places to answer questions 1 and 3.
• Round your answer (breakeven number of cases) to the nearest whole number.

2. What is Bubbs’ current margin of safety percentage?

3. Suppose Luke has a requirement that all products have to earn 7 percent of sales (after tax) per month or they will be dropped. How many cases of Bubbs does Mr. Andre need to sell in a month to avoid seeing Bubbs dropped? (round the number of cases to the nearest whole number)

• You should use Solver in Excel to answer this problem, although it is not required.

Answer 1

Break Even Point:- At Break even point total revenue = Total cost

Hence

Monthly cases to reach at breakeven are stated by AMC in below equation. Cost fuction is same as found by above regression line.

Revenue-cost of production = 0

(5.15*AMC)*12-(2.2512AMC+678553)*12=0

(61.8AMC)-(27.0144AMC+8142636)=0

34.7856AMC=8142636

AMC=8142636/34.7856

2,34,081

Hence, Average Cases per Month to reach at the break even are 234081 as per above calculation

Margin of Safety percentage

Units sold by company = 1345180/5.15 = 261200

Margin of saferty refers to the units sold over and above break even point

Therefore margin of safety is 261200-234081 = 27119 units is margin of safety

27119/234081*100 = 11.59 % are margin of safety percentage

Question 3

7% of sales are to be earned after taxes. Taxes are 20% hence we have to find first what is the target earnings pre-tax.

0.07/0.8*100 = 8.75%

Therefore, Target earnings on monthly sales is 8.75%

Monthly Breakeven point sales * 8.75% = Target profit

(234081*5.15)*8.75%= 105482.59

Target contribution = Fixed cost+Target profit

Hence 678553+105482.59 = 784035.59

Number of units to be sod to earn the above target Contribution = Total Targer contribution/Contribution per unit

784035.59/(5.15-2.2512) = 270469.02

Therefore, If they have to earn Minimum 7% profit after tax they will have to sell minimum 270469 Units on an average monthly