Question

Break-Even Sales Under Present and Proposed Conditions

Kearney Company, operating at full capacity, sold 163,500 units at a price of $60 per unit during 20Y5. Its income statement for 20Y5 is as follows:

Sales			$9,810,000
Cost of goods sold			(3,480,000)
Gross profit			$6,330,000
Expenses:
Selling expenses	$1,740,000
Administrative expenses	1,040,000
Total expenses			(2,780,000)
Income from operations			$3,550,000

The division of costs between fixed and variable is as follows:

	Fixed		Variable
Cost of good sold	40%		60%
Selling expenses	50%		50%
Administrative expenses	70%		30%

Management is considering a plant expansion program that will permit an increase of $780,000 (13,000 units at $60 per unit) in yearly sales. The expansion will increase fixed costs by $104,000, but will not affect the relationship between sales and variable costs.

Instructions:

1. Determine for 20Y5 the total fixed costs and the total variable costs.

Total fixed costs	$
Total variable costs	$

2. Determine for 20Y5 (a) the unit variable cost and (b) the unit contribution margin.

a. Unit variable cost	$ per unit
b. Unit contribution margin	$ per unit

3. Compute the break-even sales (units) for 20Y5.
units

4. Compute the break-even sales (units) under the proposed program.
units

5. Determine the amount of sales (units) that would be necessary under the proposed program to realize the $3,550,000 of income from operations that was earned in 20Y5.
units

6. Determine the maximum operating income possible with the expanded plant.
$

7. If the proposal is accepted and sales remain at the 20Y5 level, what will be the operating income or loss for 20Y6?
$  

8. Assuming a lack of market research, disadvantages for expanding the plant include all of the following except:

1. The break-even point increases.
2. The sales necessary to maintain the current income from operations must increase in excess of 20Y5 sales.
3. If future sales remain at the 20Y5 level, the income from operations will decline.
4. The maximum income from operations possible with the expanded plant is less than the current income from operations.

Answer 1

Solution

1.

Particular	Total amount	fixed cost%	fixed cost amount	variable cost%	variable cost amount
Cost of good sold	$3,480,000	40%	$1,392,000	60%	$2,088,000
Selling expenses	$1,740,000	50%	$870,000	50%	$870,000
Administrative expenses	$1,040,000	70%	$728,000	30%	$312,000
Total expenses	$6,260,000		$2,990,000		$3,270,000

Total fixed costs=$2,990,000

Total variable costs=$3,270,000

2.

A. Unit variable cost:

=Total variable cost/ number of units

=$3,270,000/163,500 units

=$20 per unit

B unit contribution margin:

=selling price per unit- variable cost per unit

=$60 -$20

=$40 per unit

3.

Break even sales(units):

=total fixed costs/contribution margin per unit

=$2,990,000/$40 per unit

=74,750 units

4.

Break even point in units(proposed):

=(original total fixed costs+additional fixed costs) /contribution margin per unit

=($2,990,000+$104,000) /$40 per unit

=$3,094,000/$40 per unit

=77,350 units

5.

amount of sales (units) that would be necessary under the proposed program to realize the $3,550,000 of income from operations that was earned in 20Y5:

=(total fixed cost+target income) /contribution margin per unit

=($3,094,000+$3,550,000) /$40 per unit

=166,100 units