Question

Due to erratic sales of its sole product—a high-capacity battery for laptop computers—PEM, Inc., has been experiencing financial difficulty for some time. The company’s contribution format income statement for the most recent month is given below: Sales (13,400 units × $20 per unit) $ 268,000 Variable expenses 134,000 Contribution margin 134,000 Fixed expenses 149,000 Net operating loss $ (15,000 )

required: 1. Compute the company’s CM ratio and its break-even point in unit sales and dollar sales. 2. The president believes that a $6,400 increase in the monthly advertising budget, combined with an intensified effort by the sales staff, will result in an $87,000 increase in monthly sales. If the president is right, what will be the increase (decrease) in the company’s monthly net operating income? 3. Refer to the original data. The sales manager is convinced that a 10% reduction in the selling price, combined with an increase of $32,000 in the monthly advertising budget, will double unit sales. If the sales manager is right, what will be the revised net operating income (loss)? 4. Refer to the original data. The Marketing Department thinks that a fancy new package for the laptop computer battery would grow sales. The new package would increase packaging costs by 0.50 cents per unit. Assuming no other changes, how many units would have to be sold each month to attain a target profit of $5,000? 5. Refer to the original data. By automating, the company could reduce variable expenses by $3 per unit. However, fixed expenses would increase by $58,000 each month. a. Compute the new CM ratio and the new break-even point in unit sales and dollar sales. b. Assume that the company expects to sell 21,000 units next month. Prepare two contribution format income statements, one assuming that operations are not automated and one assuming that they are. (Show data on a per unit and percentage basis, as well as in total, for each alternative.) c. Would you recommend that the company automate its operations (Assuming that the company expects to sell 21,000)?

Answer 1

Answer:
Requirement 1	The company CM ratio and break-even point would be as follows
	Sales	268000
	Less: Variable cost	134000
	Contribution margin	134000
	Contribution margin ratio	50%	(134,000*100/268,000)
	Contrbution/Sales*100)
	Fixed Cost	149000
	Break even point (Sales dollars)	=Fixed cost/Contribution margin ratio
		=$149,000/50%
		298000
	Break-even point (In units)	=$298,000/$20
		14900	Units
Requirement 2	The companies new operaing income would be :
	Sales	355000	($268,000+87,000)
	Less: Variable cost	177500	($355,000*50%)
	Cotribution margin	177500	($355,000*50%)
	Less: Fixed cost	149000
	Net operating income	28500	($177,500-149,000)
Requirement 3	Current Selling price is $20, if it is reduced by 10% new selling price would be $18 (i.e $20*90%)
	Current Sales units are 13,400 and double of it would be 26,800 units (i.e. 13.400*2)
	The companies new operaing income would be :
	Sales	482400	(26800*$18)
	Less: Variable cost	241200	($482400*50%)
	Cotribution margin	241200	($482400*50%)
	Less: Fixed cost	181000	($149,000+32,000)
	Net operating income	60200	($241,200-181,000)
Requirement 4	The number of units to be sold to earn $5,000 would be :
	Current Variable cost per unit is $10 (i.e. $134,000/13,400 units), New variable cost after fancy packaging would be $10.50
	New Contribution margin would be $9.50 (i.e. $20-10.50)
	Break-even point (In units)	=(Fixed Cost +Target profit)/Contribution margin per unit
		=(149,000+5,000)/$9.5
		16,211	units