E7-40B Find breakeven and target profit volume Happy Ten Produces sports socks.
ID: 402508 • Letter: E
Question
E7-40B Find breakeven and target profit volume
Happy Ten Produces sports socks. The company has fixed expenses of $80,000 and variable expenses of $0.80 per package. Each package sells for $1.60. 1. Compute the contribution margin per package and the contribution margin ratio. 2. Find the breakeven point in units and in dollars, using the contribution margin shortcut approaches. 3. Find the number of packages Happy Ten needs to sell to earn $22,000 operating income. 4. If Happy Ten can decrease its variable costs to $0.70 per package by increasing its fixed costs to $95,000, how many packages will it have to sell to generate $22,000 of operating income? Is it more or less than before? Why?
Explanation / Answer
1.) Contribution Margin Per Package = Sales Price Per Package - Variable Costs Per Package = $1.60 - $0.80 = $0.80
Contribution Margin Ratio = Contribution Margin Per Package/Sales Price Per Package = $0.80/$1.60 = 0.5
2.) To find the breakeven point, I like to make an equation and set it equal to zero (i.e. Profit = $0). Let "x" equal the units we are trying to find: Breakeven in units = (Sales Price Per Unit - Variable Costs Per Unit)x - Fixed Costs = $0
Hint: Sales Price Per Unit - Variable Costs Per Unit is the same as Contribution Margin Per Unit. We'll use that shortcut as the problem asks us to.
$0.80x - $80,000 = $0
$0.80x = $80,000
x = 100,000 units = Breakeven units
Breakeven in dollars = Contribution Margin Per Unit x Breakeven Units = $0.80 x 100,000 units = $80,000
3.) Do the same thing as in the first part of #2, but set it equal to $22,000 this time.
$0.80x - $80,000 = $22,000
$0.80x = $102,000
x = 127,500 units
4.) Use the same logic as before, but plug in the new variables. There will be a new Contribution Margin Per Unit here since the Variable Costs Per Unit changed. It will be $0.90 ($1.60 - $0.70).
$0.90x - $95,000 = $22,000
$0.90x = $117,000
x = 130,000 units
As you can see, we have to sell more than before. Although our Contribution Margin Per Unit increased, so did our Fixed Costs. The increase in the Contribution Margin Per Unit was not enough to absorb the increase in Fixed Costs at the previous level of sales if we still wanted a profit of $22,000. Therefore, we had to sell more units to achieve the same profit as before.
Hope that helps. Please rate. Thanks!
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