Question

Bubba’s Western Wear is a western hat retailer in Lubbock, Texas. Although Bubba’s carries numerous styles of western hats, each hat has approximately the same price and invoice (purchase) cost, as shown in the following table. Sales personnel receive a commission to encourage them to be more aggressive in their sales efforts. Currently, the Lubbock economy is really humming, and sales growth at Bubba’s has been great. The business is very competitive, however, and Bubba, the owner, has relied on his knowledgeable and courteous staff to attract and retain customers who otherwise might go to other western wear stores. Because of the rapid growth in sales, Bubba is also finding the management of certain aspects of the business more difficult, such as restocking inventory and hiring and training new salespeople.

Sales price	$	80.00
Per unit variable expenses
Purchase cost		42.50
Sales commissions		12.50
Total per unit variable costs	$	55.00
Total annual fixed expenses
Advertising	$	107,500
Rent		155,000
Salaries		257,250
Total fixed expenses	$	519,750

Required:

1. Calculate the annual breakeven point, both in terms of units and in terms of sales dollars.

2. If Bubba’s sells 22,000 hats, what is its before-tax income or loss? Support your answer by preparing a contribution income statement.

3. If Bubba’s sells 33,000 hats, what is its margin of safety (MOS) in dollars and MOS ratio?

4. Bubba is considering the elimination of sales commissions completely and increasing salaries by $164,625 annually. What would be the new breakeven point in units? What would be the before-tax income or loss if 22,000 hats are sold with the new salary plan?

Answer 1

Required 1:-

Total Fixed Expense = $519,750

Contribution Per Unit = (Selling Price Unit - Total Variable Cost Per Unit) =$ (80 - 55) = $25

Contribution margin ratio = (Contribution Paer Unit / Selling Price Per Unit)* 100 = (25 /80)*100 = 31.25%

Comptattion Of Break - Even Point (Units)

= (Fixed Expense / Contribution Per Unit)

= ($519,750 / $25)

= 20,790 Units

Comptattion Of Break - Even Point ($)

= (Fixed Expense / Contribution Margin Ratio)

= ($519,750 / 31.25%)

= $1,663,200

Required 2:-

Contribution Income Statement When 22,000 Hats Sold.

Particulars		Amount($)
Sales Revenue ($80 * 22,000 Units)		1,760,000
Less:- Total Variable Cost ($55 * 22,000 Units)		(1,210,000)
Contribution Margin		550,000
Less:- Total Fixed Expense		(519,750)
Net Operating Income		30,250

Required 3:-

Workings:-1 Computation Of Net Operating When 33,000 Hats Sold Out.

Particulars		Amount($)
Sales Revenue ($80 * 33,000 Units)		2,640,000
Less:- Total Variable Cost ($55 * 33,000 Units)		(1,815,000)
Contribution Margin		825,000
Less:- Total Fixed Expense		(519,750)
Net Operating Income		305,250

Here,

Contribution Margin Ratio = (Contribution margin / Sales revenue) *100 = ( $825,000 / $2,640,000)*100 = 31.25%

Margin Of Safty ($) =(Net operating Income / Contribution Margin ratio) = ($305,250 / 31.25%) = $976,800

Margin Of Safty Ratio = [ Magin of Safty ($) / Current Level Sales($)] *100 = ($976,800 / $2,640,000) *100 = 37%

Required 4:-

Previouly Total Fixed Expense = $519,750

Now Salaries Increased by $164,625

Revised Total Fixed Expense = ($519,750 + $164,625) = $684,375

Comptattion Of Break - Even Point (units)

= (Fixed Expense / Contribution Per Unit)

= ($684,375 / $25)

= 27,375 Units

Comptattion Of Break - Even Point ($)

= (Fixed Expense / Contribution Margin Ratio)

= ($684,375 / 31.25%)

= $2,190,000

Computation of Income or Loss Under New Salary Plan when 22,000 hats are sold:-

Particulars		Amount($)
Sales Revenue ($80 * 22,000 Units)		1,760,000
Less:- Total Variable Cost ($55 * 22,000 Units)		(1,210,000)
Contribution Margin		550,000
Less:- Revised Total Fixed Expense		(684,375)
Net Operating Loss		134,375

The before-tax loss if 22,000 hats are sold with the new salary plan = $134,375