PROBLEM 3-25 Changes in Fixed and Variable Expenses; Break-Even and Target Profi
ID: 341829 • Letter: P
Question
PROBLEM 3-25 Changes in Fixed and Variable Expenses; Break-Even and Target Profit Analysis LO3-4, LO3-5, LO3-6] Neptune Company produces toys and other items for use in beach and resort areas. A small, inflat- able toy has come onto the market that the company is anxious to produce and sell. The new toy will sell for $3 per unit. Enough capacity exists in the company's plant to produce 16,000 units of the toy each month. Variable expenses to manufacture and sell one unit would be S1.25, and fixed expenses associated with the toy would total $35,000 per month. The company's Marketing Department predicts that demand for the new toy will exceed the 16,000 units that the company is able to produce. Additional manufacturing space can be rented from another company at a fixed expense of $1.000 per month. Variable expenses in the rented facility would total $1.40 per unit, due to somewhat less efficient operations than in the main plant.Explanation / Answer
(1).
Existing sale price per unit
$3
Less: Variable expense
($1.25)
Contribution margin per unit
$1.75
Number of units
16000 units
Total contribution margin (16000 * $1.75)
$28000
Existing fixed costs
($35000)
Unrecovered fixed cost in existing case
$7000
New monthly fixed costs
$1000
Total fixed costs
$8000
New contribution margin ($3 – $1.40)
$1.60
Formula for break-even point (in units);
BEP (in units) = Fixed costs / Contribution margin
$8000 / $1.60 = 5000 units
Total break even units (16000 + 5000) = 21000 units
Break even (in Dollars) = Break even in units * Sale price per unit
Now let’s put values in the formula;
(21000 units * $3) = $63000
(2).
Fixed costs = $8000
Contribution margin = $1.60
Required profits = $12000
Thus number of units will be calculated as follow;
($8000 + $12000 / $1.60) = 12500 units
Thus total number of units to be sold for earning profit $12000;
(16000 units + 12500 units) = 28500 units
(3).
New sale price = $3
New variable cost per unit ($1.40 + $0.30) = $1.70
Contribution margin ($3 – $1.70) = $1.30
Break even sale (in units) = 21000 units
Monthly fixed costs = $1000
Desired return ($1000 * .25) = $250
Thus number of units to be sold to earn profit of 25% will be caculated as follow;
(Fixed costs + Desired profits / contribution margin)
$1000 + $250 / $1.30
= 961.54 units or 962 Units (Approx.)
As we know that break even units are = 21000 units
So total number of units to be sold (21000 + 962) = 21962 units
Existing sale price per unit
$3
Less: Variable expense
($1.25)
Contribution margin per unit
$1.75
Number of units
16000 units
Total contribution margin (16000 * $1.75)
$28000
Existing fixed costs
($35000)
Unrecovered fixed cost in existing case
$7000
New monthly fixed costs
$1000
Total fixed costs
$8000
New contribution margin ($3 – $1.40)
$1.60
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