Question

Lorge Corporation has collected the following information after its first year of sales. Sales were $2,100,000 on 105,000 units; selling expenses $250,000 (40% variable and 60% fixed); direct materials $1,006,700; direct labor $240,000; administrative expenses $270,000 (20% variable and 80% fixed); and manufacturing overhead $399,000 (70% variable and 30% fixed). Top management has asked you to do a CVP analysis so that it can make plans for the coming year. It has projected that unit sales will increase by 10% next year.

Compute (1) the contribution margin for the current year and the projected year, and (2) the fixed costs for the current year. (Assume that fixed costs will remain the same in the projected year.)

Compute the break-even point in units and sales dollars for the first year. (Round contribution margin ratio to 2 decimal places e.g. 0.15 and final answers to 0 decimal places, e.g. 2,510.)

The company has a target net income of $160,000. What is the required sales in dollars for the company to meet its target?

If the company meets its target net income number, by what percentage could its sales fall before it is operating at a loss? That is, what is its margin of safety ratio? (Round answer to 1 decimal place, e.g. 10.5.)

The company is considering a purchase of equipment that would reduce its direct labor costs by $100,000 and would change its manufacturing overhead costs to 30% variable and 70% fixed (assume total manufacturing overhead cost is $399,000, as above). It is also considering switching to a pure commission basis for its sales staff. This would change selling expenses to 90% variable and 10% fixed (assume total selling expense is $250,000, as above). Compute (1) the contribution margin and (2) the contribution margin ratio, and recompute (3) the break-even point in sales dollars. (Round contribution margin ratio to 2 decimal places, e.g. 25.25 and all other answers to 0 decimal places, e.g. 2,520. Use the current year numbers for calculations.)

Answer 1

Current year				Next year
unit sold	105000			115500
		per unit cost
Sales	2100000	20		2310000
variable cost:
selling expenses	100000	0.95		110000
direct material	1006700	9.59		1107370
direct labor	240000	2.29		264000
administrative expenses	54000	0.51		59400
manufacturing overhead	279300	2.66		307230
Total variable cost	1680000	16		1848000
Contribution Margin (Sales - total variable cost)	420000			462000
fixed cost:
selling expenses	150000			150000
administrative expesnes	216000			216000
manufacturing overhead	119700			119700
Total fixed cost	485700			485700
	-65700			-23700

BEP = Fixed cost / (Selling price per unit - variable cost per unit)

= 485700/(20-16)

= 121425 units

in $ = 121425*20

= 2428500

2. sales required to earn target net income = (160000 + 485700)/4*(20)

= 645700/4*(20)

= 161425*20

= 3228500

3. Margin of safety ratio %= Marin of safety / Actual sales *100

Margin of safety = total sales - breask even sales

= 3228500 - 2428500

= 800000

Margin of safety % = 800000/3228500*100

= 24.77%

(b) Computation when given changes will be done -

Current year
unit sold	105000
		per unit cost
Sales	2100000	20
variable cost:
selling expenses	225000	2.14
direct material	1006700	9.59
direct labor	140000	1.33
administrative expenses	54000	0.51
manufacturing overhead	119700	1.14
Total variable cost	1545400	14.7181
Contribution Margin (Sales - total variable cost)	554600
fixed cost:
selling expenses	25000
administrative expesnes	216000
manufacturing overhead	279300
Total fixed cost	520300
Profit/(loss)	34300

(1) Contribition margin = 554600

(2) contribution margin ratio = contribution margin / sales

= 554600/2100000

= 26.40%

(3)BEP = 520300/(20 - 14.72)*20

= 98506*20

= 1970120

Please comment in case of further clarification required/wrong.