Chapter 6 Smartbook

net operating income

Operating leverage is a measure of how sensitive _____ is to a given percentage change in sales dollars.

unit volume.

When preparing a CVP graph, the horizontal axis represents:

$380000 b/c Net operating income =30,000 × ($40 - $19) - $250,000 = $380,000

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 ______.

1520000 b/c ($240,400 + $930,000) ÷ 0.77= $1,520,000

Softie, Inc. produces facial tissues. The company's contribution margin ratio is 77%. Fixed expenses are $240,400. To achieve a target profit of $930,000, Softies' sales must be Blank______.

contribution margin ÷ net operating income

The degree of operating leverage = _______ .

Company B

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?

cm ratio × change in sales - change in fixed expenses

A change in profits that occurs due to a change in sales and fixed expenses may be calculated as ______.

3 2

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.

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

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?

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

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

695000 b/c $1,630,000 - $935,000 = $695,000

Seth's Speakers had actual sales of $1,630,000 If break-even sales equals $935,000, Seth's margin of safety in dollars is Blank______.

fixed expenses plus net operating income

Total contribution margin equals

False b/c incremental analysis only requires information about the change in sales, not the previous ones

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

False: The margin of safety is the excess of the budgeted (or actual) sales dollars over break-even sales dollars.

True or false: The margin of safety is the excess of break-even sales dollars over budgeted (or actual) sales dollars.

Sales and variable expenses

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

incremental

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

$0.35

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

sales

The variable expense ratio equals variable expenses divided by ____ .

$1,800,000 b/c ($975,000 + $195,000) ÷ 0.65 = $1,800,000

Chitter-Chatter sells phones and has set a target profit of $975,000. The contribution margin ratio is 65%, and fixed costs are $195,000. Sales dollars needed to earn the target profit total ________.

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

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 _______.

$180,000 b/c Contribution margin = 20,000 × ($20 - $11) = $180,000.

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 _____.

- total revenue equals total cost - net operating income is zero Side note: - at the break-even point there is no profit or loss

At the break-even point _______ .

49800 b/c $982,000 - $932,200 = $49,800.

Budgeted sales are $982,000, break-even sales are $932,200, and fixed expenses are $429,000. The company's budgeted margin of safety in dollars is _______.

Volume, selling price, costs

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

- becomes profit after fixed expenses are covered. - is a variable amount, so it is affected by changes in activity - contribution margin equals sales minus variable expenses - contribution margin is first used to cover fixed expenses. It is equal to sales minus variable expenses

Contribution margin:

total variable costs = $350 b/c Total variable costs = (35 × $10) = $350. total sales = $1,925 b/c Total sales = 35 × $55 = $1,925. profits = $875 b/c Profits = 35 × ($55 - $10) - $700 = $875.

Elle's Elephant Shop sells giant stuffed elephants for $55 each. Each elephant has variable costs of $10 and total fixed costs are $700. If Ellie sells 35 elephants this month, ______.

higher

If operating leverage is high, a small percentage increase in sales produces a __________ percentage increase in net operating income than if operating leverage is low.

$2800 b/c $98,000 ÷ ($50 - $15) = 2,800

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?

$2,200 b/c Profit = 300 × ($20 - $7) - $1,700 = $2,200.

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 ______.

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

Net operating income equals:

(P × Q - V × Q) - fixed expenses.

Profit equals:

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

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 Blank______.

decrease by $16,000 b/c Total contribution margin would increase by $44,000 ((74,000 boxes × $6) - (50,000 boxes × $8)). Increased CM of $44,000 - $60,000 in new fixed costs = $16,000 decrease.

Tasty Tangerine is currently selling 50,000 boxes for $25 per box. Variable cost per box is $17 and fixed costs total $260,000. A plan is being considered to spend $60,000 on advertising and reduce the selling price by $2 per box. Management believes this plan will increase sales volume by 24,000 boxes. If management's predictions are correct, making these changes will cause net income for the year to ______ .

margin safety

The amount by which sales can drop before losses are incurred is the ________ of _______ .

degree of operating leverage

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

fixed variable

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

sales mix

The term used for the relative proportion in which a company's products are sold is _____ ____.

True: Because selling prices, costs, and contribution margins of the products differ, the sales mix is assumed to be constant when doing break-even calculations.

True or false: The sales mix must be taken into consideration when calculating the break-even point for more than one product due to different selling prices, costs, and contribution margins among the products.

$100 b/c For each unit sold above break-even, profit increases by the contribution margin per unit ($100,000 - $80,000) ÷ 200 = $100.

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 ______.

$450 increase b/c The current contribution margin is $39 per unit ($80 - $41) or $19,500 (500 units × $39) total. The new contribution margin would be $35 per unit ($39 - $4 new cost) or $19,950 (570 units × $35), an increase of $450.

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 Blank______.

$450 increase b/c The current contribution margin is $39 per unit ($80 - $41) or $19,500 (500 units x $39) total. The new contribution margin would be $35 per unit ($39 - $4 new cost) or $19,950 (570 units x $35), an increase of $450.

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 ___.

$198000 b/c Net operating income = (26,000 - 17,000) × $22 = $198,000.

A company's break-even point is 17,000 units. If the contribution margin is $22 per unit and 26,000 units are sold, net operating profit will be ______.

increase by $6,000 b/c ($70,000 × 30%) - $15,000 = $6,000 increase

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 Blank______.

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

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 Blank______.

leverage

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

increase by $24,000 b/c An increase in selling price of $5 will increase the contribution margin $5. The increased contribution margin of $74,000 ((10,750 × $32) - (10,000 × $27)) - the additional fixed costs of $50,000 = a profit increase of $24,000.

An increase in selling price of $5 will increase the contribution margin $5. The increased contribution margin of $74,000 ((10,750 × $32) - (10,000 × $27)) - the additional fixed costs of $50,000 = a profit increase of $24,000.

decrease b/c Sales - variable cost = contribution margin so an increase in variable cost per unit decreases contribution margin per unit.

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

40,000 b/c ($520,000 + $320,000) ÷ $21 = 40,000

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 Blank______.

130000 b/c Net income = (25,000 - 15,000) × ($25 - $12) = $130,000.

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:

4800 b/c ($4,000 + $3,200) ÷ ($15.00 - $13.50) = 4,800 bottles.

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 _____.

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

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

- costs per unit. - sales mix. - selling price per unit.

The break-even point calculation is affected by:

total fixed expenses.

The break-even point is reached when the contribution margin is equal to:

contribution margin / sales

The calculation of contribution margin (CM) ratio is _______.

ratio

The contribution margin as a percentage of sales is referred to as the contribution margin or CM _____ .

variable

The contribution margin equals sales minus all _______ expenses.

sales

The variable expense ratio equals variable expenses divided by _____.

total expense, and total fixed expense

To prepare a CVP graph, lines must be drawn representing total revenue, ________ .

True b/c This is true. 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. Both have advantages and disadvantages.

True or false: 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.

variable expense or cost

Variable expenses ÷ Sales is the calculation for the _____ ______ ratio.

-99,000: b/c Net operating income = contribution margin less expenses/costs therefore, $184,000 - $85,000 = $99,000

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 Blank______.

- each product most likely has different costs - each product most likely has a unique contribution margin - a change in the sales mix will most likely change the break-even point

When a company produces and sells multiple products _____ .

$7625 b/c Unit sales to break-even = Fixed expenses ÷ Contribution margin per unit = $305,000 ÷ $40 = 7,625

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 ______.

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

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 ______. Multiple choice question. increase by $10,000

- 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 company with a high ratio of fixed costs:

$5,000

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 $_________ .

change from zero to a net operating profit

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

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

When making a decision using incremental analysis consider the _____.

- Unit variable costs - Selling prices - Sales volume - Total fixed costs - Mix of products sold

CVP analysis focuses on how profits are affected by ______.