Chapter 6 - Cost-Volume-Profit Relationship

Net operating income equals:

(unit sales - unit sales to break even) × unit contribution margin.

Assuming sales price remains constant, an increase in the variable cost per unit will ______ the contribution margin per unit

decrease

The high-low method

uses only two data points is easy to apply is based on periods where the activity tends to be unusual

Using the high-low method, the fixed cost is calculated

using either the high or low level of activity after the variable cost per unit is calculated

The contribution margin equals sales minus all ______ expenses

variable

A company has a target profit of $204,000. The company's fixed costs are $305,000. The contribution margin per unit is $40. The BREAK-EVEN point in unit sales is

7,625 units

Account analysis involves a detailed analysis of what cost behavior should be, based on an industrial engineer's evaluation

False, This is the engineering approach

When preparing a CVP graph, the horizontal axis represents

Unit Volums

The contribution margin equals sales minus all ______ expenses.

Variable

When using the high-low method, the slope of the line equals the _______ cost per unit of activity.

Variable

Which of the following items are found above the contribution margin on a contribution margin format income statement?

Variable expenses Sales

Which of the following statements is correct?

The higher the margin of safety, the lower the risk of incurring a loss.

Without knowing the future, it is not obvious which cost structure is better: a structure with higher fixed costs and lower variable costs or a structure with lower fixed costs and higher variable costs.

True

Total contribution margin equals

fixed expenses plus net operating income

Company A has a contribution margin ratio of 35%. For each dollar in sales, contribution margin will increase by

$0.35

Vivian's Violins has sales of $326,000, contribution margin of $184,000 and fixed costs total $85,000. Vivian's Violins net operating income is

99,000

Cost behavior is considered linear whenever

a straight line approximates the relationship between cost and activity

Contribution Margin

becomes profit after fixed expenses are covered

At the break-even point

net operating income is zero total revenue equals total cost

A company sells 500 sleds per month for $80. Variable costs are $41 per unit and fixed expenses are $3,500 per month. The company thinks that using a new material would increase sales by 70 units per month. If the new material increases variable costs by $4 per unit, the impact on contribution margin would be a

$450 increase

A company's selling price is $90 per unit, variable cost per unit is $28 and total fixed expenses are $320,000. The number of unit sales needed to earn a target profit of $200,800 is

($320,000 + $200,800) ÷ ($90 - $28) = 8,400 units.

Profit equals

(P × Q - V × Q) - fixed expenses.

Daisy's Dolls sold 30,000 dolls this year. Each doll sold for $40 and had a variable cost of $19. Fixed expenses were $250,000. Net operating income for the year is

1,200,000 - 570,000 - 250,000 = 380,000

A company incurred $12,000 of maintenance cost for 6,500 machine hours in June and $14,250 of maintenance costs for 8,000 hours in August. Assuming these are the high and low months of activity, the estimated fixed maintenance costs using the high-low method is

2,250

A company sold 20,000 units of its product for $20 each. Variable cost per unit is $11. Fixed expenses total $150,000. The company's contribution margin is

20,000 x (20-11) = 180,000

Adams, Inc. has sales of $100,000 with a contribution margin of $60,000 and net income of $20,000. Baron, Inc. has sales of $110,000 with a contribution margin of $44,000 and net income of $22,000. Thus, the degree of operating leverage is _______ for Adams, Inc. and _________ for Baron, Inc.

3 (60,000 / 20,000) 2 (44,000 / 22,000)

Blissful Blankets' target profit is $520,000. Each blanket has a contribution margin of $21. Fixed costs are $320,000. The number of blankets that must be sold to achieve the target profit is

40,000

Marjorie's Mugs sold 300 mugs last year for $20 each. Variable costs were $7 per mug and total fixed costs were $1,700. Marjorie's Mugs' profit was

6,000 - 2,100 - 1,700 = 2,200

A measure of how sensitive net operating income is to a given percentage change in sales dollars is known as operating

Leverage

It makes sense to perform a high-low or regression analysis if a scatter graph plot reveals __________ ___________behavior

Linear Cost Behavior

The amount by which sales can drop before losses are incurred is the _____ of ____

Margin of Safety

Company A produces and sells 10,000 units of its product for $10 per unit. Variable costs are $4 per unit and fixed costs total $30,000. A move to a larger facility would increase rent expense by $8,000, and allow the company to meet its demand for an additional 1,000 units. If the move is made, profits will

New contribution margin = $6,000 (1,000 × ($10 - $4)) - $8,000 new cost = ($2,000) decrease in profits.

The contribution margin as a percentage of sales is referred to as the contribution margin or CM____

Ratio

The variable expense ratio equals variable expenses divided by

Sales

The variable expense ratio is the ratio of variable expense to

Sales

Run Like the Wind sells ceiling fans. Target profit for the year is $470,000. If each fan's contribution margin is $32 and fixed costs total $222,640, the number of fans required to meet the company's goal is

Sales volume = ($470,000 + $222,640) ÷ $32 = 21,645 fans.

The rise-over-run formula for the slope of a straight line is the basis of ______.

The High-Low Method

When using the high low method, the change in cost divided by the change in units equals _____

The Variable Cost Per Unit

Contribution margin

becomes profit after fixed expenses are covered

Contribution margin:

becomes profit after fixed expenses are covered

When a company sells one unit above the number required to break-even, the company's net operating income will

change from zero to net operating profit

The variable cost per unit using the high-low method is calculated as

change in cost ÷ change in units (activity)

When making a decision using incremental analysis consider the

change in sales dollars resulting specifically from the decision change in cost resulting specifically from the decision

Estimating the fixed and variable components of a mixed cost using the ________ approach involves a detailed analysis of what cost behavior should be

engineering

The term "cost structure" refers to the relative proportion of _______ and ________ costs in an organization

fixed and variable

A company's current sales are $300,000 and fixed expenses total $85,000. The contribution margin ratio is 30%. The company has decided to expand production which is expected to increase sales by $70,000 and fixed expenses by $15,000. If these results occur, net operating income will

increase 6,000; (70,000 x 0.3) - 15,000 = +6,000

When the analysis of a change in profits only considers the costs and revenues that will change as the result of the decision, the decision is being made using _____ analysis.

incremental

A company with a high ratio of fixed costs

is more likely to experience a loss when sales are down than a company with mostly variable costs. is more likely to experience greater profits when sales are up than a company with mostly variable costs.

A method that uses all the available data points to divide a mixed cost into its fixed and variable components is called

least-squares regression

The best fitting line minimizes the sum of the squared errors when using ______.

least-squares regression

Operating leverage is a measure of how sensitive ______ is to a given percentage change in sales dollar

net operating income

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

net operating income will increase by $0.70 total contribution margin will increase by $0.70

A non-profit organization is trying to determine the fixed and variable costs of providing meals. During the first six months of the year, the following meals were served and the following costs were incurred. The cost equation using the high-low method is

y = $1,450 + $2.50x. The high-low method uses the highest and lowest level of activity, not costs. February (1,700 meals and $5,700) and April (1,100 meals and $4,200) are the high and low activity months.

Adams, Inc. has sales of $100,000 with a contribution margin of $60,000 and net income of $20,000. Baron, Inc. has sales of $110,000 with a contribution margin of $44,000 and net income of $22,000. Which of the following statements are correct?

Adams has a higher degree of operating leverage than Baron. Baron's net income grows twice as fast as its sales.

JVL Enterprises has set a target profit of $126,000. The company sells a single product for $50 per unit. Variable costs are $15 per unit and fixed costs total $98,000. How many units does JVL have to sell to BREAK-EVEN

$98,000 ÷ ($50 - $15) = 2,800 to break-even. 6,400 units is needed to earn the target profit.

Paula's Perfumes has a target profit of $4,000 per month. Perfume sells for $15.00 per bottle and variable costs are $13.50 per bottle. Fixed costs are $3,200 per month. The number of bottles that must be sold each month to earn the target profit is

($4,000 + $3,200) ÷ ($15.00 - $13.50) = 4,800 bottles.

A company currently has sales of $700,000 and a contribution margin ratio of 45%. As a result of increasing advertising expense by $8,000, the company expects to increase sales to $735,000. If this is done and these results occur, net operating income will

(($735,000 - $700,000) × 45%) - $8,000 = $7,750 increase

A product has a selling price of $10 per unit, variable expenses of $6 per unit and total fixed costs of $35,000. If 10,000 units are sold, net operating income will be $

(100,000 - 60,000 - 35,000) = 5,000

A company reported $100,000 in sales and $80,000 in variable costs at the breakeven point of 200 units. If the company sells 201 units, net profit will be

(100,000 / 200) - (80,000 / 200) = 100

Ceramic Creations sells pots for $25. The variable cost per pot is $12 and 15,000 pots must be sold to break-even. If Ceramic Creations sells 25,000 pots, net operating income will be:

(25,000 - 15,000) x (25 - 12) = 130,000

A 15% increase in sales resulted in a 40% increase in net income for Company A and a 60% increase in net income for Company B. Based on this, which company has the greater operating leverage?

Company B

To calculate the degree of operating leverage, divide ______ ________by net operating income.

Contribution Margin

To calculate the variable cost per unit using the high-low method, the change in _______ is divided by the change in ____________

Cost Activity

The measure of how a percentage change in sales affects profits at any given level of sales is the

Degree of Operating Leverage

When constructing a CVP graph, the vertical axis represents:

Dollars

Estimating the fixed and variable components of a mixed cost using the _______ approach involves a detailed analysis of what cost behavior should be.

Engineering

Once the break-even point is reached, the sale of an additional unit increases contribution margin by an amount that is ______ the increase in net operating income.

Equal to

Knowledge of previous sales is necessary when using incremental analysis to evaluate a change in profits.

False

Cost structure refers to the relative portion of product and period costs in an organization

False; Cost structure refers to the relative portion of fixed and variable costs in an organization.

If operating leverage is high, a small percentage increase in sales produces a _______(higher/lower) percentage increase in net operating income than if operating leverage is low.

Higher

When using the high-low method, fixed costs are calculated after variable costs are determined.

True; When using high-low, the variable cost per unit of activity is calculated by dividing the change in cost by the change in activity. That amount is plugged into one of the activity levels to determine the total fixed cost.

When using the high-low method, if the high or low levels of cost do not match the high or low levels of activity,

choose the periods with the highest and lowest levels of activity and their associated costs

The calculation of contribution margin (CM) ratio is

contribution margin ÷ sales

CVP analysis focuses on how profits are affected by

mix of products sold sales volume total fixed costs selling price unit variable cost

CVP analysis allows companies to easily identify the change in profit due to changes in

selling price volume product mix

When the analysis of a change in profits only considers the costs and revenues that will change as the result of the decision, the decision is being made using _____ analysis

Incremental

The best fitting line minimizes the sum of the squared errors when using

Least-Square Regression