Question

Cheryl Montoya picked up the phone and called her boss, Wes Chan, the vice president of marketing at Piedmont Fasteners Corporation: “Wes, I’m not sure how to go about answering the questions that came up at the meeting with the president yesterday.”

"What's the problem?"

“The president wanted to know the break-even point for each of the company’s products, but I am having trouble figuring them out.”

“I’m sure you can handle it, Cheryl. And, by the way, I need your analysis on my desk tomorrow morning at 8:00 sharp in time for the follow-up meeting at 9:00.”

Piedmont Fasteners Corporation makes three different clothing fasteners in its manufacturing facility in North Carolina. Data concerning these products appear below:

	Velcro		Metal		Nylon
Annual sales volume	101,000		216,000		293,000
Unit selling price	$	1.70	$	2.00	$	1.30
Variable expense per unit	$	1.00	$	1.40	$	0.90

Total fixed expenses are $256,000 per year.

All three products are sold in highly competitive markets, so the company is unable to raise prices without losing an unacceptable numbers of customers.

The company has an extremely effective lean production system, so there are no beginning or ending work in process or finished goods inventories.

Required:

1. What is the company’s over-all break-even point in dollar sales?

2. Of the total fixed expenses of $256,000, $17,500 could be avoided if the Velcro product is dropped, $99,000 if the Metal product is dropped, and $79,200 if the Nylon product is dropped. The remaining fixed expenses of $60,300 consist of common fixed expenses such as administrative salaries and rent on the factory building that could be avoided only by going out of business entirely.

a. What is the break-even point in unit sales for each product?

b. If the company sells exactly the break-even quantity of each product, what will be the overall profit of the company?

Answer 1

The overall break-even sales can be determined using the CM ratio.

Velcro Metal. Nylon. Total

Sales. $171,700 $432,000 $380,900 $984,600 Variabl exp 101,000 302,400 263,700 667,100 Contribution $70,700 $129,600 $117,200 317,500

Fixed expenses. $256,000 Net operating income. $61,500

CM ratio = Contribution margin / sales

= $317,500/ $ 984,600= 0.32246

Dollar sales tobreak even=Fixed expenses/ cm ratio

=$256,000 / 0.32246= $793,897 (rounded) ratio.

(2). The issue is what to do with the common fixed cost when computing the break-evens for the individual products. The correct approach is to ignore the common fixed costs. If the common fixed costs areincluded in the computations, the break-even points will be overstated for individual products and manager may drop products that in fact are profitable.

a.The break-even points for each product can be computed using the contribution margin approach as follows:

Velcro. Metal. Nylon. Unit selling price. $1.70 $2.00 $1.30 Variable cost per unit 1.00 1.40 0.90 Unit contribution(a) $0.70 $0.60 $0.40 Product fixd exp (b)$ 17,500. $99,000. $79,200 Unit sales to break even

(b) ÷ (a) 25,000 165,000 198,000

b. If the company were to sell exactly the break-even quantities computed above, the company would lose$66,800—the amount of the common fixed cost. This can be verified as follows:

Velcro. Metal. Nylon. Total Unit sales. 25,000 165,000 198,000 Sales $42000 $330,000 $257,400 $629,400 Variable exp. 25,000 237,000 178,200 4,40,200 Contribution. $17,000 $ 93,000 $79,200 189,200 Fixed expenses. 256,000 Net operating loss. $ (66,800)