Question

The Chief Financial Officer at BYC Corporation, Redding Noston, has hired you to perform some cost-volume-profit analysis to determine what changes can be made to increase profitability. BYC Corp Formed on January 1, 2013 and has struggled financially since inception. Redding has provided you with the following traditional income statement for 2016

Sales	10,000,000
Cost of good sold:?
Direct labor	2,500,000??
Direct material	2,000,000??
Variable manufacturing overhead	1,500,000??
Fixed manufacturing overhead	2,000,000??
Total cost of goods sold	8,000,000??
Gross Margin	2,000,000??
Operating expenses
Variable selling expenses	500,000??
Fixed selling expenses	750,000??
Fixed administrative expenses	1,500,000??
Total operating expenses	2,750,000??
Net operating loss	(750,000)??

Total sales volume for 2016 was 500,000 units.

The relevant range for BYC Corporation is 400,000 - 700,000 units.

(1) Prepare a contribution format income statement for 2016.

Calculate the break-even sales dollars and the break-even sales units.

(2) The Production Manager believes that by using a lower quality material, the cost of direct material can be reduced by 15% per unit.

While he doesn't expect the change in material quality to be apparent, he believes that customers will overlook any change in quality if the product has a lower sales price.

He believes that by lowering the sales price by $1.00 per unit, there will be a 10% increase in sales volume.

Prepare a contribution format income statement for this alternative.

Calculate the break-even sales dollars and the break-even sales units.

(3) The Quality Control Manager does not agree with the Production Manager's suggestion and has a different idea.

He believes that an additional piece of equipment can be purchased.

The new piece of equipment will allow the company to decrease Direct Labor to 17% of Sales.

The new piece of equipment will increase fixed costs by $250,000 per year.

The Quality Control Manager would also like to change the costs for the Sales Department. He has proposed spending an additional $6,000 per month on advertising and

reducing variable selling expenses by $0.50 per unit.

He believes these changes will lead to an increase in sales volume of 2%. Coupled with an increase in sales price per unit of $0.25, the company should break-even.

Prepare a contribution format income statement for this alternative.

Calculate the break-even sales dollars and the break-even sales units.

(4) The Sales Manager also believes that an additional piece of equipment is the answer to financial success.

She agrees with the Quality Control Manager that a piece of equipment costing $250,000 per year will create a cost savings overall.

However, she believes that the equipment combined with a decrease in sales price of $5 per unit will increase sales volume by 50%.

In addition, she believes direct labor can be reduced to 15% of sales.

With the decrease in direct labor necessary to produce the merchandise, she is proposing firing two manufacturing managers for a total savings of $400,000.

She also believes a change in the Sales Department is necessary and has proposed eliminating all sales commissions so that variable selling costs will be totally

eliminated but sales salaries will be increased by $12,000 per year.

Prepare a contribution format income statement for this alternative.

Calculate the break-even sales dollars and the break-even sales units.

(5) Prepare a memo to the Chief Financial Officer summarizing the results of your analysis.

Include specific financial information.

Provide a written conclusion for analysis.

Answer 1

1)	BYC Corporation
	Contribution Income Statement
	For the Year 2016
	Sales		10,000,000
	Direct Material	2,000,000
	Direct Labor	2,500,000
	Variable Manufacturing Overhead	1,500,000
	Variable Production expenses		6,000,000
	Variable Selling Expenses		500,000
	Total Variable Expenses		6,500,000
	Contribution Margin		3,500,000
	Fixed Manufacturing Overhead	2,000,000
	Fixed Selling Expenses	750,000
	Fixed Administrative Expenses	1,500,000
	Total Fixed Expenses		4,250,000
	Operating Profit / (Loss)		-       750,000
	Contribution Margin Ratio =	Contribution Margin /Sales * 100
	=	3500000/ 10000000 *100
	=	35%
	Break Even Sales in Dollars =	Total Fixed Cost / Contribution Margin Ratio
	=	4250000/35%
	=	12,142,857
	Contribution Margin per unit=	Contribution Margin /no of units sold
	=	3500000/500000
	=	7.00
	Break Even Sales in Units=	Total Fixed Cost / Contribution Margin Per Unit
	=	4250000/7
	=	607,143

2)	BYC Corporation
	Contribution Income Statement (Alternative 1)
	Sales		10,450,000
	Direct Material	1,870,000
	Direct Labor	2,500,000
	Variable Manufacturing Overhead	1,500,000
	Variable Production expenses		5,870,000
	Variable Selling Expenses		500,000
	Total Variable Expenses		6,370,000
	Contribution Margin		4,080,000
	Fixed Manufacturing Overhead	2,000,000
	Fixed Selling Expenses	750,000
	Fixed Administrative Expenses	1,500,000
	Total Fixed Expenses		4,250,000
	Operating Profit / (Loss)		-             170,000
	Contribution Margin Ratio =	4080000/ 10450000 *100
	=	39.04
	Break Even Sales in Dollars =	4250000/39.4%
	=	10,786,802
	Contribution Margin per unit=	4080000/550000
	=	7.42
	Break Even Sales in Units=	4250000/7.42
	=	572,776

Sales	10,000,000
Units sold	500,000
(10000000/500000)
Price per unit	20
Reduced price	19
(20-1)
Increase in no of units	10%
Revised sale units	550,000
(500000 * 110%)
Revised Sales in Value	10,450,000
(550000 * 19)
Original Direct Material Cost	2,000,000
Cost per unit	4
(2000000/4)
Reduction in price	15%
Revised Price	3
4 * (1 - 0.15)
Revised Direct Material Cost	1,870,000
(550,000 * 3)

3)	BYC Corporation
	Contribution Income Statement (Alternative 2)
	Sales		10,327,500
	Direct Material	2,000,000
	Direct Labor (17% of Sales)	1,755,675
	Variable Manufacturing Overhead	1,500,000
	Variable Production expenses		5,255,675
	Variable Selling Expenses		255,000
	Total Variable Expenses		5,510,675
	Contribution Margin		4,816,825
	Fixed Manufacturing Overhead (Increase by 250000)	2,250,000
	Fixed Selling Expenses (Increase by 6000)	756,000
	Fixed Administrative Expenses	1,500,000
	Total Fixed Expenses		4,506,000
	Operating Profit / (Loss)		310,825
	Contribution Margin Ratio =	4816825/ 10327500 *100
	=	46.64
	Break Even Sales in Dollars =	4506000/46.64%
	=	9,661,235
	Contribution Margin per unit=	4816825/ 510000
	=	9.44
	Break Even Sales in Units=	4506000/9.44
	=	477,331

Sales	10,000,000
Units sold	500,000
(10000000/500000)
Price per unit	20
Increased price	20.25
(20+0.25)
Increase in no of units	2%
Revised sale units	510,000
(500000 * 102%)
Revised Sales in Value	10,327,500
(510000 * 20.25)
Variable Selling Expenses	500000
Per Unit Cost	1
Reduced Cost	0.50
(1-0.5)
Revised Variable Expenses	255,000
(0.50 * 510000)

4)	BYC Corporation
	Contribution Income Statement (Alternative 3)
	For the Year 2016
	Sales		10,500,000
	Direct Material	2,000,000
	Direct Labor (15% of Sales)	1,575,000
	Variable Manufacturing Overhead	1,500,000
	Variable Production expenses		5,075,000
	Variable Selling Expenses (eliminated)		-
	Total Variable Expenses		5,075,000
	Contribution Margin		5,425,000
	Fixed Manufacturing Overhead (Decrease by 400000 and increase by 250000)	1,850,000
	Fixed Selling Expenses (increase by 12000)	762,000
	Fixed Administrative Expenses	1,500,000
	Total Fixed Expenses		4,112,000
	Operating Profit / (Loss)		1,313,000
	Contribution Margin Ratio =	Contribution Margin /Sales * 100
	=	5425000/ 10500000 *100
	=	51.67
	Break Even Sales in Dollars =	Total Fixed Cost / Contribution Margin Ratio
	=	4112000/51.67%
	=	7,958,196
	Contribution Margin per unit=	Contribution Margin /no of units sold
	=	5425000/ 700000
	=	7.75
	Break Even Sales in Units=	Total Fixed Cost / Contribution Margin Per Unit
	=	4112000/7.75
	=	530,581

Sales	10,000,000
Units sold	500,000
(10000000/500000)
Price per unit	20
Increased price	15.00
(20-5)
Increase in no of units	50%
Revised sale units	750,000
(500000 * 150%)
Relevant Range	700,000
Revised Sales in Value	10,500,000
(750000 * 15)

For 2016 , the contribution of th company is 35%. The break even sales in dollars is 12.14 million and 607143 in units.

The first alternative to reduce cost of direct materials does lead to decrease in loss but it also affects the quality of the product which will not be god for the company in long term.

The second alternative brings the company in to profit. The break even is achieved at 477331 units.

The third alternative talks about increase in sales volume by 50%. That brings the units to 750,000 units. However the company's range is only upto 700,000 and the calculations are done as per thus volume. The third alternative brings in a lot of profits but it involves laying off employees and cuting down on sales commission. While it may give a boost to the business now, it is possible sales might be affected in long term. Drastic decrease in price may give a negative perceprtion about the product and might affect future volumes.

The second alternative seems like a good option wherein the company will bring in the new equipment to increase the sale and will not drastically reduce price to increase sales. The company will come into positive and start making profits. I would recommend the second option.