Chapter 5 A202

Two companies with the same margin of safety in dollars will also have the same total contribution margin.

False

Last month when Holiday Creations, Inc., sold 40,000 units, total sales were $306,000, total variable expenses were $238,680, and fixed expenses were $38,300. 1. What is the company's contribution margin (CM) ratio? 2. What is the estimated change in the company's net operating income if it can increase total sales by $2,500?

1) CM / Sales = CM Ratio CM = 306,000 - 238,680 = 67,320 CM Ratio = 67,320 / 306,000 = 0.22 2) CM Ratio x 2,500 = 550

contribution margin format income statement

1) Sales 2) Less: Variable Expenses 3) Contribution Margin 4) Less: Fixed Expenses 5) Net operating income

A company reports the following for a sales volume of 200 units: $100,000 in sales and $80,000 in variable costs. If the break-even point is 200 units and the company sells 201 units, net profit will be:

For each unit sold above break-even, profit increases by the contribution margin per unit ($100,000 -$80,000)/2 or $100.

Company A has fixed costs of $564,000 and a contribution margin of 62%. Sales dollars to break-even rounded to the nearest whole dollar equals:

564,000 / 0.62 = $909,677

Ferkil Corporation manufacturers a single product that has a selling price of $30.00 per unit. Fixed expenses total $66,000 per year, and the company must sell 5,500 units to break even. If the company has a target profit of $16,500, sales in units must be:

At breakeven, Contribution Margin = Fixed cost = $66,000 Hence Contribution margin per unit at 5,500 units = ($66,000/5,500)=$12 per unit Target Contribution margin = Fixed cost + Target profit = 16,500 + 66,000 / 12 per unit = 6875

Data concerning Follick Corporation's single product appear below: Selling Price per Unit: $320.00 Variable Expense per Unit: $76.80 Fixed Expense per Month: $170,240 The break-even in monthly dollar sales is closest to:

Dollar sales to Breakeven = Fixed Expense / CM Ratio CM Ratio = 0.76 170,240 / 0.76 = $224,000

For a given level of sales, a low contribution margin ratio will produce MORE net operating income than a high contribution margin ratio.

False

A company with high operating leverage will experience a LARGER reduction in net operating income in a period of declining sales than a company with low operating leverage.

True

To calculate profit, multiply:

the CM per unit by sales volume and subtract total fixed cost

Once the break-even point has been reached, net operating income will increase by:

the amount of the unit contribution margin for each additional unit sold.

Margin of Safety

the excess of budgeted or actual sales dollars over the break-even volume of sales dollars. It is the amount by which sales can drop before losses are incurred. The higher the margin of safety, the lower the risk of not breaking even and incurring a loss.

Contribution margin is the amount remaining from sales revenue after variable expenses have been deducted. Thus, it is the amount available to cover fixed expenses and then to provide profits for the period. Notice the sequence here—contribution margin is used first to cover the fixed expenses, and then whatever remains goes toward profits. If the contribution margin is not sufficient to cover the fixed expenses:

then a loss occurs for the period.

The break-even point is reached when CM is equal to:

total fixed expenses

Terry's Trees has reached its break-even point and has calculated its contribution margin ratio to be 70%. For each $1 increase in sales:

-Net operating income and total contribution margin will increase by $0.70. means that for each dollar increase in sales, total contribution margin will increase by 70 cents ($1 sales × CM ratio of 70%). Net operating income will also increase by 70 cents, assuming that fixed costs are not affected by the increase in sales.

Pete's Putters sells each putter for $125. The variable cost is $60 per putter and fixed costs total $400,000. Based on this information:

-the sale of 12,000 putters results in net operating income of $380,000 (12,000 x $65 CM = 780,000 - 400,000 = 380,000 -Breakeven point is $400,000 / 65 or 6,154 putters. If total sales are in excess of $6,154 putters, Pete will make a profit.