Question

As a business owner it is important to understand not only how much revenue you are making but also the profit that is being realized.  Part of this process is to understand contribution margin, break-even point and operating income.  

This assignment has 4 parts:

What is taken into consideration to figure out the contribution margin?

How is the break-even point determined?

What is needed to determine the operating income?

Would the contribution margin, break-even point and operating income change if the compensation method for employees is modified?

Answer 1

Contribution margin=(Sales Revenue) minus (Variable cost)

Sales Revenue=(Sales in units)*(Sales Price per unit)

Variable Costs=(Sales in units)*(Variable cost per unit)

Following are taken into consideration to figure out the contribution margin:

• Sales in units
• Sales price
• Variable cost per unit

How is the break-even point determined?

Break even point is the point at which the profit is NIL

Profit==(Sales Revenue) minus (Variable cost) minus(Fixed Costs)

(Sales in units)*(Sales Price per unit)minus (Sales in units)*(Variable cost per unit)minus (Fixed Costs)

Sales in units=Q

Sales Price per unit =P

Variable cost per unit=V

Fixed Costs=F

Profit=(Q*(S-V))-F

Profit=(Contribution) minus (Fixed Costs)

At Break even point=Contribution=Fixed Cost

At Break Even Point ,

Q*(S-V)=F

S-V=Unit Contribution

Break even Quantity of Sales=Q=F/(S-V)=Fixed Cost/Unit contribution

Break Even Sales in Dollars=Q*P=F*P/(S-V)=F/((S-V)/S)

Break even sales in dollar=Fixed cost/(Contribution Margin Ratio)

What is needed to determine the operating income

Operating Income=(Sales Revenue) minus (Variable costs)-(Fixed Costs)

Operating Income=(Contribution Margin )-(Fixed Costs)

Would the contribution margin, break-even point and operating income change if the compensation method for employees is modified?

Compensation of employees can be variable, fixed or semi variable

If the compensation is changed from fixed to semi variable or variable, the Fixed portion of the compensation will reduce or become nil and Variable part of compensation will be introduced.

This will reduce the fixed costs and also Contribution margin

Assume Unit Sales Price=$100

Unit variable costs=$80

Unit Contribution=(100-80)=$20

Fixed Costs=$1000

Breakeven point=1000/20=50

Suppose dur to change in compensation structure,

New Fixed Costs=$900

Unit Variable costs=$81

New Break even point=900/(100-81)=900/19=47.4

Hence, with change in compensation structure, Breakeven point may change

Also total costs may change.

Consequently margin and operating income may change