OBJEC oblem 4-45 Contribution Margin Ratio, Break-Even Sales, Operating Leverage

ID: 2554105 • Letter: O

Question

OBJEC oblem 4-45 Contribution Margin Ratio, Break-Even Sales, Operating Leverage gart Company produces plastic mailboxes. The projected income statement for the coming ar follows: $460,300 165,708 $294,592 150,000 $144,592 Sales Total variable cost Contribution margin Total fixed cost Operating income quired: tribution margin ratio for the mailboxes. Compute the con How much revenue must Elgart eam in order to break even? What is the effect on the contribution margin ratio if the unit selling price and unit variable cost each increase by 15%? CONCEPTUAL CONNECTION Suppose that management has decided to give a 4% com- mission on all sales. The projected income statement does not reflect this commission. Recompute the contribution margin ratio, assuming that the commission will be paid. What effect does this have on the break-even point? CONCEPTUAL CONNECTION If the commission is paid as described in Requirement 4 management expect leverage? Is it a sound decision to implement the commission? Support your answer with s sales revenues to increase by $80,000. How will this affect operating

Explanation / Answer

Solution:

Part 1 – Contribution Margin Ratio

Contribution Margin Ratio = Contribution Margin / Sales x 100

= $294,592 / 460,300 x 100

= 64%

Part 2 – Revenue in order to break even

Break Even Revenue = Total Fixed Cost / Contribution Margin Ratio

= $150,000 / 64%

= $234,375

Part 3 – No effect, since sales and variable cost is increasing parallel.

Explanation and working to prove NO EFFECT

Revised Sales Revenue = $460,300 + 15% increase 460,300 = 460,300 + 69,045 = $529,345

Revised Variable Cost = 165,708 + 15 increase of 165,708 = 165708 + 24,856.20 = $190,564.20

Contribution Margin = $529,345 - $190,564.20 = $338,780.80

Contribution Margin Ratio = $338,780.80 / 529,345 x 100 = 64%

Part 4 --- Since commission is paid based on sales.

We need to calculate revised variable cost and revised contribution margin

Sales Revenue

$460,300

Less:

Variable Cost

165708

Sales Commission (4%*460,300)

18412

Total Variable Cost

184120

Contribution Margin

276180

Contribution Margin Ratio (276,180 / 460,300 x 100)

60.00%

Break Even Point = Fixed Cost / CM Ratio = $150,000 / 60% = $250,000

Effect ---

Break Even Point in increased. It means company will have to earn more to recover its fixed cost.

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