AFM102 Chapter Notes - Chapter 4: Marginal Revenue, Fixed Cost

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lemonbeetle804

16 Jun 2018

School

University of Waterloo

Department

Accounting & Financial Management

Course

AFM102

Professor

Jie Joyce Tian

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Chapter 4

Break-Even Point: The level of sales at which profit is zero, total sales equal total

expenses, or where total contribution margin (CM) equals total fixed expenses.

Sales – variable expenses – fixed expenses = 0.

Cost-Volume-Profit (CVP) Graph: A graph that shows the marginal revenue, total

cost, and fixed cost curves.

CM Ratio: CM/Sales * 100%. CM as a percentage of sales.

Variable Expense Ratio: The ratio of variable expenses to sales. CM Ratio + VE

Ratio = 100%.

Break-even Point in Units = Fixed Expenses/Unit CM

Break-even Point in Sales = Fixed Expenses/CM Ratio

Target Profit Units with tax = [Fixed Expenses + Target Profit/(1-tax rate)]/Unit CM

Margin of Safety: The excess of budgeted (or actual) sales over the break-even

volume of sales.

Margin of Safety Percentage: Margin of safety in dollars/Total Sales

Operating Leverage: A measure of how sensitive operating income is to a given

percentage change in sales. It is computed by dividing the contribution margin by

operating income.

OL = CM/Operating Income

% Change in Op. Income = % Change in Sales * Operating Leverage

Indifference Point Between Cost Structures:

(Fixed Cost of X - Fixed Cost of Y) / (CM per Unit of X – CM per Unit of Y)

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Document Summary

Break-even point: the level of sales at which profit is zero, total sales equal total expenses, or where total contribution margin (cm) equals total fixed expenses. Sales variable expenses fixed expenses = 0. Cost-volume-profit (cvp) graph: a graph that shows the marginal revenue, total cost, and fixed cost curves. Variable expense ratio: the ratio of variable expenses to sales. Break-even point in units = fixed expenses/unit cm. Break-even point in sales = fixed expenses/cm ratio. Target profit units with tax = [fixed expenses + target profit/(1-tax rate)]/unit cm. Margin of safety: the excess of budgeted (or actual) sales over the break-even volume of sales. Margin of safety percentage: margin of safety in dollars/total sales. Operating leverage: a measure of how sensitive operating income is to a given percentage change in sales. It is computed by dividing the contribution margin by operating income. Income = % change in sales * operating leverage.

Related Questions

EXERCISE 5-18 Break-Even and Target Profit Analysis; Margin of Safety; CM Ratio [LO5-1, L05-3, L05-5, L05-6, L05-7] Menlo Company distributes a single product. The company's sales and expenses for last month follow: Per Unit $30 Total $450,000 180,000 270,000 216,000 $ 54,000 Variable expenses ...... Contribution margin. Fixed expenses Net operating income ....... 12 Required: 1. What is the monthly break-even point in unit sales and in dollar sales? 2. Without resorting to computations, what is the total contribution margin at the break-even point? 3. How many units would have to be sold each month to earn a target profit of $90,000? Use the formula method. Verify your answer by preparing a contribution format income statement at the target sales level. 4. Refer to the original data. Compute the company's margin of safety in both dollar and per- centage terms. 5. What is the company's CM ratio? If sales increase by $50,000 per month and there is no change in fixed expenses, by how much would you expect monthly net operating income to increase?

I'd like help with the following problem, but please explain howyou arrive at your answers. Thank you.

Exercise5-11 Break-Even Analysis; Target Profit; Margin of Safety; CM Ratio[LO1, LO3, LO5, LO6, LO7]

Pringle Company distributes asingle product. The companyâs sales and expenses for a recent monthfollow:

1. What is the monthlybreak-even point in units sold and in sales dollars? (Omit the "$"sign in your response.)

Break-even point in unitsales

units

Break-even point in salesdollars

2. Without resorting tocomputations, what is the total contribution margin at thebreak-even point? (Omit the "$" sign in your response.)

Total contribution margin

3. How many units would haveto be sold each month to earn a target profit of $31,800? Use theformula method.

Units sold

Refer to the original data.Compute the company's margin of safety in both dollar andpercentage terms. (Round your percentage answer to 2 decimalplaces. Omit the "$" and "%" signs in your response.)

Dollars

Percentage

Margin of safety

5. What is the companyâs CMratio? If monthly sales increase by $63,000 and there is no changein fixed expenses, by how much would you expect monthly netoperating income to increase? (Omit the "$" and "%" signs in yourresponse.)

CM ratio

Net operating income increasesby

The Hampshire Company manufactures umbrellas that sell for$12.50 each. In 2014, the company made and sold 60,000 umbrellas.The company had fixed manufacturing costs of $216,000. It also hadfixed costs for administration of $79,525. The per-unit costs ofeach umbrella are as follows:

Direct Materials: $3.00

Direct Labor: $1.50

Variable Manufacturing Overhead: $0.40

Variable Selling Expenses: $1.10

Using the information above, perform a cost-volume-profit (CVP)analysis by completing the steps below.

1. Compute net income before tax.

2. Compute the unit contribution margin in dollars and thecontribution margin ratio for one umbrella.

3. Calculate the break-even point in units and dollars ofrevenue.

4. Calculate the margin of safety:

In units

In sales dollars

As a percentage

5. Calculate the degree of operating leverage.

6. Assume that sales will increase by 20% in 2015. Calculate thepercentage of before-tax income for this increase. Providecalculations to prove that your percentage increase is correctbased on the operating leverage calculated in step 5.

7. Compute the number of umbrellas that Hampshire is required tosell if it plans to earn $150,000 in income before taxes by usingthe target income formula. Proof your calculation.

8. A company that specializes in tours in England has offered topurchase 5,000 umbrellas at $11 each from Hampshire. The variableselling costs of these additional units will be $1.30 as opposed to$1.10 per unit. Also, this production activity will incur another$15,000 of fixed administrative costs. Should Hampshire agree tosell these additional 5,000 umbrellas to the touring business?Provide calculations to support your decision.

Requirement 1
	Units	Price	Totals
Sales	X	$	$
Variable Costs	X	$	$
Fixed Costs			$
Net Income			$

Requirement 2

Contribution Margin per Unitin Dollars = Selling Price â Variable Costs

Selling Price		Variable Costs	Contribution Margin per Unit



Contribution Margin Ratio =Contribution Margin/Selling Price

Contribution Margin		Selling Price	Contribution Margin Ratio


Requirement 3

Break-Even Point = Fixed Costs/ Contribution Margin

Fixed Costs		Contribution Margin	Break-Even Point in Units (Rounded)


Break-Even Point in Units XSelling Price per Unit = Break-Even Point Sales

Break-Even Point in Units		Selling Price per Unit	Break-Even Point in Sales (Rounded)


Requirement 4A

Margin of Safety in Units =Current Unit Sales â Break-Even Point in Unit Sales

Current Unit Sales		Break-Even Point in Sales	Margin of Safety in Units


Requirement 4B

Margin of Safety in Dollars =Current Sales in Dollars â Break-Even Point Sales in Dollars

Current Sales in Dollars		Break-Even Point in Dollars	Margin of Safety in Dollars


Requirement 4C

Margin of Safety as aPercentage = Margin of Sales in Units / Current Unit Sales

Margin of Safety in Units		Current Unit Sales	Margin of Safety Percentage



Requirement 5

Degree of Operating Leverage =Contribution Margin / Operating Income

Contribution Margin		Operating Income	Operating Leverage



Requirement 6
	Units	$ Per Unit	Totals
Sales	X	$	$
Variable Costs	X	$	$
Fixed Costs			$
Net Income			$

Operating Leverage		Times % Increase	Increase would be XX%


Prior Income	$	From Part 1
Increase	$	Prior Income X XX% Above
Total	$


Requirement 7

Targeted Income = (Fixed Costs+ Target Income) / Contribution Margin

Fixed Costs + Target Income		Divided by Contribution Margin	# of Units (Rounded)
Fixed Costs	$
Target Income	$
Total	$	$	X

		# of Units Above X $ Per Unit
Proof	Revenue	XX,XXX X $XX.XX	$
	Variable Costs	XX,XXX X $X.XX	$
	Contribution Margin		$
	Fixed Costs		$
	Net Income		$


Requirement 8

Sales Mix
	Current	Specialty	Total
Expected Sales Units	X	X
Revenue = Sales X Price	$	$	$
Variable Costs X Units	$	$	$
Contribution Margin	$	$	$
Fixed Costs	$	$	$
Operating Income			$

Prior Net Income FromRequirement 1			$

Additional Operating Income	(Operating Income Above Less Prior Income)		$

Decision With Explanation

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AFM102 Chapter Notes - Chapter 4: Marginal Revenue, Fixed Cost

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