Question

Sporting Goods is a retailer of sporting equipment. Last​ year, Terry​'s sales revenues totalled $2,500,000. Of this​ amount, approximately $1,612,000 were​ variable, while the remainder were fixed. Since Terry​'s Sporting Goods offers thousands of different​ products, its managers prefer to calculate the​ break-even point in terms of sales dollars rather than units.

1.	What Terry current operating​ income? (Prepare a contribution margin format income​ statement.)

2.	What is Terry contribution margin​ ratio?

3.	What is Terry ​break-even point in sales​ dollars? ​(​Hint: The contribution margin ratio calculated in requirement 2 is already weighted by Terry actual sales​ mix.)

4. Terry top management is deciding whether to embark on a $200,000 advertising campaign. The marketing firm has projected annual sales volume to increase by 20% as a result of this campaign. Assuming that the projections are​ correct, what effect would this advertising campaign have on Terry annual operating​ income?

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Answer 1

Solution :

1. Sales Revenue = $ 2500000

Terry​'s sales revenues totalled $2,500,000. Of this​ amount, approximately $1,612,000 were​ variable, while the remainder were fixed

Variable expenses = $ 1612000

Therefore Fixed Expenses = $ 2500000- $ 1612000 = $ 888000

Contribution margin format income​ statement

Sales Revenue	$ 2500000
Less : Variable Expenses	$ 1612000
Contribution Margin	$ 888000
Less : Fixed Expenses	$ 888000
operating​ income	$ 0

2. Contribution margin​ ratio

Contribution margin​ ratio = Contribution Margin / Sales Revenue * 100

= $ 888000 / 2500000 *100 = 35.52%

3. Calculation of Break-even point in sales​ dollars :-

Break-even point in sales​ dollars = Fixed Costs / Contribution margin​ ratio

Fixed Expenses = $ 888000

Contribution margin​ ratio = 35.52%

Break-even point in sales​ dollars = $ 888000 / 35.52% = $ 2500000

4. Analysis of the effect of  advertising Expenses on Terry annual operating ​income :-

The marketing firm has projected annual sales volume to increase by 20% as a result of $ 200000 on Advertisement campaign.   

Therefore, New sales = $ 2500000 * 120% = $ 3000000

Contribution margin format income​ statement

New Sales Revenue	$ 3000000
Less : Variable Expenses	$ 1612000
Contribution Margin	$ 1388000
Less : Fixed Expenses	$ 888000
Less :Advertisement Expenses	$ 200000
New Operating​ income	$ 300000

Therefore , As a result of $ 200,000 advertising campaign,the firm annual sales volume increased by 20% which results in increase in annual operating income by $ 300000.