BUSI 294

In-Class Problems – Module 5: Cost-Volume-Profit

Question 1

Marwick’s Pianos, Inc., purchases pianos from a large manufacturer for an average cost of $2,450
per unit and then sells them to retail customers for an average price of $3,125 each. The company’s
selling and administrative costs for a typical month are presented below:

During August, Marwick’s Pianos, Inc., sold and delivered 40 pianos.

Required:
1. Prepare a traditional format income statement for August.
2. Prepare a contribution format income statement for August. Show costs and revenues on
both a total and a per unit basis down through contribution margin.
3. Refer to the income statement you prepared in (2) above. Why might it be misleading to
show the fixed costs on a per unit basis?

Question 2

Ng Corporation produces and sells only one product; its selling price is $100 and its variable cost is
$80 per unit. The company’s monthly fixed expense is $20,000.
Required:
1. Solve for the unit sales that are required to earn a target profit before taxes of $3,000.
2. Solve for the dollar sales that are required to earn a target profit before taxes of $4,000.
3. Calculate the number of units that need to be sold to earn an after-tax income of $6,000,
assuming a tax rate of 25%.
Question 3

James House is planning on starting a cleaning services business but has not decided whether he
should focus on residential clients or commercial clients. His estimates of revenue, variable
expenses, and fixed expenses are shown below.

Residential Commercial
Revenue $25 per hour $35 per hour
Variable Expense $15 per hour $20 per hour
Fixed Expense $500 per month $825 per month

Required:
1. At what volume of hours per month will James be indifferent between focusing on residential
versus commercial clients?
2. Calculate the number of break-even hours for residential clients and commercial clients.
3. Assume that James decides to focus on commercial clients and his business is operating at 120
hours per month. Calculate the margin of safety both in dollars and as a percentage of sales.

Question 4

Logan Company manufactures and sells two products: Basic and Deluxe. Monthly sales, CM ratios,
and the CM per unit for the two products are shown below:

Basic Deluxe Total

Sales $600,000 $400,000 $1,000,000
Contribution margin ratio 60% 35% ?
Contribution margin per unit $9.00 $11.50 ?

The company’s fixed expenses total $400,000 per month.

Required:
1. Prepare a contribution format income statement for the company as a whole.
2. Compute the overall break-even point in dollars for the company based on the current sales mix.
3. Compute the overall break-even point in units for the company based on the current sales mix.
4. If sales increase by $50,000 per month, by how much would you expect operating income to in-
crease? What are your assumptions?
Question 5

Klein Company distributes a high-quality bird feeder that sells for $30 per unit. Variable costs are
$12 per unit, and fixed costs total $270,000 annually.

Required: Answer the following independent questions:

1. What is the product’s CM ratio?

2. Use the CM ratio to determine the break-even point in sales dollars.
3. The company estimates that sales will increase by $60,000 during the coming year due to
increased demand. By how much should operating income increase?
4. Assume that the operating results for last year were as follows:

Sales………………………………………. $600,000
Variable Expenses………………….. 240,000
Contribution margin………………. 360,000
Fixed expenses………………………. 270,000
Operating Income………………….. $90,000

a. Compute the degree of operating leverage at the current level of sales.

b. The president expects sales to increase by 16% next year. By how much should operating
in- come increase?

5. Refer to the original data. Assume that the company sold 23,000 units last year. The sales
manager is convinced that a 12% reduction in the selling price, combined with a $40,000 increase
in advertising expenditures, would cause annual sales in units to increase by 30%. Prepare two
contribution format income statements, one showing the results of last year’s operations and one
showing what the results of operations would be if these changes were made. Would you
recommend that the company do as the sales manager suggests?

6. Refer to the original data. Assume again that the company sold 23,000 units last year. The
president feels that it would be unwise to change the selling price. Instead, he wants to increase the
sales commission by $4 per unit. He thinks that this move, combined with some increase in
advertising, would increase annual unit sales by 50%. By how much could advertising be increased
with profits remaining unchanged? Do not prepare an income statement; use the incremental
analysis approach.