Question

An extract from the income statement of PoMA Ltd for the previous year is given below:                                                                                                            

                                                                                Rs.                         

Sales (50,000 units)                                         1,000,000

Direct materials                                                350,000                

Direct labor cost (50,000 hours)                 200,000                

Fixed manufacturing overhead                  190,000

Variable manufacturing overhead            50,000

Administration overheads                           180,000                

Selling and distribution overhead             120,000                

                                                                                                               

The directors are keen to improve revenue and productivity and are considering various options.             You are the management accountant and are requested to compute the following:                                

                                                               

a. If salesmen are paid commission of 10% of sales, how many units must be sold to achieve breakeven point.   

                                                               

b. By how much does profit change (increase or decrease) if the selling price is reduced by 10% resulting in an estimated increase in sales volume (in number of units) by 30%.                                                           

                                                               

c. By how much does profit change (increase or decrease) if the direct labor rate is increased from Rs.4 to Rs.5 per hour. This increase is expected to increase production and sales by 20% without affecting the hours worked. However, advertising costs will increase by Rs.50,000.   

                                                               

d. How many units must be sold in order to achieve a target profit margin of 10% on sales (profit/salesx100) assuming that advertising costs will increase by Rs.300,000 and selling price will increase by 20%   

                                                               

e. What is the Margin of Safety at the sales volume derived in part d above (express as percentage of sales)

Answer 1

1) Break Even Point = Fixed Cost/ Contribution P.u.

Contribution p.u.= Selling Price - Variable Expenses

Selling Price=1,000,000/50000= $ 20 p.u.

Variable Cost p.u. = Direct Material + Direct Labour Exp + Variable Overhead

Direct Material = 350000/50000 = $ 7 p.u.

Direct Labour = $ 200000/50000 = $ 4 p.u.

Variable Manufacturing OH = 50000/50000 = $ 1 p.u.

Selling Commision = 10% of Selling Price = 10% * 20 = $ 2

Total Variable Cost = 7 + 4 + 1 + 2 = $ 14 p.u.

Contribution p.u. = 20-14 = $ 6 p.u.

BEP = 190000/6 = 31666 units

2. Selling Price = $20 p.u.

New Selling Price p.u. = 20 *(100-90)% = $ 18

Unit Sold = 50000

New Unit Sold = 50000*(100+30)% =65000 units

Particulars	New Amount (I)	Particulars	Old Amount (II)
Sale Value (65000 *18)	1170000	Sale Value (50000 *20)	1000000
Less : Variable Expenses (65000* (7+4+1))	780000	Less : Variable Expenses (50000* (7+4+1))	600000
Contribution	390000	Contribution	400000
Less : Fixed manufacturing Cost	190000	Less : Fixed manufacturing Cost	190000
Less : Administration OH	180000	Less : Administration OH	180000
Less: Selling & Distribution Exp	120000	Less: Selling & Distribution Exp	120000
Net loss	100000	Net loss	90000

Net loss has been increased by $ 10000/-

3. Increase in Direct Labour = 50000*5 = $ 250000 =

Direct Labour in p.u. = $ 250000/ 50000 units = 5 p.u.

Particulars	New Amount (I)
Sale Value (1000000*120/100)	1200000
Less : Variable Expenses (50000*120%* (7+5+1))	780000
Contribution	420000
Less : Fixed manufacturing Cost	190000
Less : Administration OH	180000
Less: Selling & Distribution Exp	120000
Less: Advertising Exp	50000
Net loss	120000

4. Profit Margin required = 10% of $ 1000000= $ 100000

Particulars	New Amount (I)
Net Profit Margin	100000
Add: Fixed Cost
Fixed manufacturing Cost	190000
Administration OH	180000
Selling & Distribution Exp	120000
Advertising Exp	300000
Contribution	890000
Add: Variable Cost	600000
Sale Value	1490000

No. of units required to sold = 1490000/24= 62083

Break Even Point = Fixed Cost/ Contribution p.u.

                                    (190000+180000+120000+300000)/(890000/50000) = 44382

Margin of Saftey = 62083-44382 = 17701 units