Question

After-Tax Profit Targets Olivian Company wants to earn $420,000 in net (after-tax) income next year. Its product is priced at $275 per unit. Product costs include: Direct materials $90 Direct labor $65 Variable overhead $16 Total fixed factory overhead $440,000 Variable selling expense is $14 per unit; fixed selling and administrative expense totals $290,000. Olivian has a tax rate of 40 percent. Required:

1. Calculate the before-tax profit needed to achieve an after-tax target of $420,000.

2. Calculate the number of units that will yield operating income calculated in Requirement 1 above. (Round to the nearest unit.)

3. Prepare an income statement for Olivian Company for the coming year based on the number of units computed in Requirement 2. 4. What if Olivian had a 35 percent tax rate? Would the units sold to reach a $420,000 target net income be higher or lower than the units calculated in Requirement 3? Calculate the number of units needed at the new tax rate. (Round dollar amounts to the nearest dollar and unit amounts to the nearest unit.)

Show computation please.

Answer 1

Olivian Company

1. Calculation of before tax profit needed to achieve an after-tax target of $420,000:

Before tax income = After tax income/(1- tax rate)

After tax income = $420,000

Tax rate = 40%

Before tax income = 420,000/(1-.40) = 420,000/.60 = $700,000

1. Calculation of number of units needed to earn operating income of $700,000:

Desired units = target profit + fixed expense)/contribution margin per unit

Contribution margin per unit –

Selling price per unit	$275
variable costs:
Direct material	$90
Direct labor	$65
Variable overhead	$16
variable selling expenses	$14
total variable cost	$185
Contribution margin per unit	$90
Fixed costs -
Factory overhead	$440,000
selling and administrative costs	$290,000
Total fixed cost	$730,000

Desired units = (730,000 + 700,000)/90 = 15,889 units

1. Income statement based on 15,889 units –

Selling price per unit	275	$4,369,475
variable costs:
Direct material	90	$1,430,010
Direct labor	$65	$1,032,785
Variable overhead	$16	$254,224
variable selling expenses	$14	$222,446
total variable cost	$185	$2,939,465
Contribution margin per unit	$90	$1,430,010
Fixed costs -
Factory overhead		$440,000
selling and administrative costs		290,000
Total fixed cost		$730,000
Net operating income		$700,010
tax at 40%		$280,004
After tax income		$420,006

1. Assuming tax rate of 35%, the units sold to reach the target income of $420,000:

Before tax income = $420,000/ (1-.35) = $646,154

Desired units = (730,000 + 646,154)/$90 = 15,291 units

Since the tax rate is lower, the target before income would be lower. Hence the company needs to sell lesser units to reach the desired after tax profit of $420,000.

The number of units needed at the new tax rate = 15,291