Question

One product produced and sold by Backstrom’s Backyard Products is a water fountain for which 2019 projections are as follows:

Projected volume in units                                                                             100,000

Sales price per unit                                                                                          $75

Variable production cost per unit                                                              $30

Variable selling cost per unit                                                                        $15

Fixed production cost                                                                                     $800,000

Fixed selling and administration costs                                                     $400,000

1. Compute the projected pretax profit to be earned on the water fountains in 2019. (Pretax profit will be 1,800,000 – show your work.)
2. Management estimated that unit volume could be increased by 25% if the sales price was cut by 15%. How would such a change affect the profit level projected in (a) above. (Provide the pretax profit and explain the change.)
3. Rather than cutting the sales price, management is considering holding the sales price at the projected level and increasing advertising by $185,000. Such a change would increase volume by 30%. How would the level of profit under this alternative compare to the profit projected in (a). (Provide the pretax profit and explain the change. )

Answer 1

Question 1

Particulars	Amount	Amount
Sales Revenue		75,00000
Less: Variable Costs
Variable Production Costs	30,00,000
Variable Selling Costs	15,00,000
Total Variable Costs		45,00,000
Contribution Margin		30,00,000
Fixed Costs
Fixed Production Costs	8,00,000
Fixed Selling and Administrative Costs	4,00,000	12,00,000
Total Fixed Costs
Pre Tax Income		18,00,000

Notes

Sales Revenue = 100,000 Units * $ 75 per Unit = $ 75,00,000

Variable Costs

Variable Production Costs = 100,000 Units * $ 30 per Unit = $ 30,00,000

Variable Selling Costs = 100,000 Units * $ 15 per Unit = $ 15,00,000

Question 2

Particulars	Amount	Amount
Sales Revenue		79,68,750
Variable Costs
Variable Production Costs	37,50,000
Variable Selling Costs	18,75,000
Total Variable Costs		56,25,000
Contribution Margin		23,43,750
Fixed Costs
Fixed Production Costs	8,00,000
Fixed Selling and Administrative Expenses	4,00,000
Total Fixed Costs		12,00,000
Pre Tax Income		11,43,750

Change in Projected Income = Pretax Profit before Increase in Sales - Pretax Profit after Increase in Sales

Change in Projected Income = 18,00,000 - 11,43,750

Decrease in Projected Income = $ 656,250

The Estimated expectations of increasing the sales by reducing the sales price of Goods is not a good idea as the above Calculation clearly explain that the level of Pretax Profit Decrease by $ 656,250 if the expected change is made in tge sales Mix so better to stay at current mix becuase the changes in sales level is not desirable to meet the cost Increase

Notes

Units = 100,000 + 25,000 (Increase of 25% in Sales ) = 125,000 Units

Sales Revenue = 125,000 Units * $ 63.75 per Unit = $ 79,68,750

Variable Costs

Variable Production Costs = 125,000 Units * $ 30 per Unit = $ 37,50,000

Variable Selling Costs = 125000 Units * $ 15 per Unit = 18,75,000

Sales Price = 75 - 11.25 (Decrease of 15% in Unit Sales Price) = $ 63.75 per Unit

Question 3

Particulars	Amount	Amount
Sales Revenue		97,50,000
Less: Variable Costs
Variable Production Costs	39,00,000
Variable Selling Costs	19,50,000
Total Variable Costs		58,50,000
Contribution Margin		39,00,000
Fixed Costs
Fixed Production Costs	8,00,000
Fixed Selling and Administrative Costs	5,85,000
Total Fixed Costs		13,85,000
Pre Tax Income		25,15,000

Increase in Pretax Income on Comparison with Part A = 25,15,000 - 18,00,000

Increase by $ 715,000

This is much better alternative than that suggested earli of becuase the Additional sale as a result of increase in advertising costs is far better than current level so it is better to spend Additional $ 185,000 on advertisement costs and increase the sales level by an extra 30,000 Units which will increase the Pretax Income by $ 715,000.

Notes

Unit Sales = 100,000 + 30,000 = 130,000 Units

Increase in Units = 10% of 100,000 = 30,000 Units

Sales Revenue = 130,000 Units * $ 75 per Unit = $ 97,50,000

Variable Costs

Variable Production Costs = 130,000 Units * $ 30 per Unit = $ 39,00,000

Variable Selling Costs = 13,00,000 Units * $ 15 per Unit = $ 19,50,000

Fixed Selling and Administrative Costs = 400,000 + 185,000 (Additional Increase in Fixed Costs) = $ 585,000

Notes for All three parts of the Question

Contribution Margin = Sales Revenue - Total Variable Costs

Pretax Income = Contribution Margin - Total Fixed Costs