Question

Northwood Company manufactures basketballs. The company has a ball that sells for $25. At present, the ball is manufactured in a small plant that relies heavily on direct labor workers. Thus, variable expenses are high totaling $15.00 per ball of which 60% is direct labor cost. Last year, the company sold 46,000 of these balls, with the following results: $ Sales (46,000 balls) Variable expenses Contribution margin Fixed expenses Net operating income 1,150,000 690,000 460,000 318,000 142,000

Answer 1

1 a) contribution margin ratio = contribution/sales*100

= 460000/1150000*100

= 40%

Break even point in balls = Fixed expenses/contribution per unit

= 318000/10

31800 balls

[Contribution per unit 25 - 15]

b) Degree of operating leverage = contribution/EBIT

= 460000/142000

= 3.239

2) If variable expenses increased by $3

Variable expenses = 15+3 = 18

Contribution margin ratio = (25-18)/25 *100

= 7/25*100

=28%

Break even point in balls = 318000/7

=45428.57

=45429 balls

3) Sales quantity to earn desired profit of $ 142000 = (Fixed cost + desired profit)/contribution per unit

= (318000+142000)/7

= 460000/7

= 65715 balls

4) Variable expenses = 46000*18 = 828000

Contribution margin ratio = 40%

Variable cost ratio = 1 - CM ratio

= 1 - 40%

= 60%

Expected sales = (828000/60) *100

= $1380000

Selling price per unit = 1380000/46000

= $ 30

5) Variable expenses = 15*60% = $9

Fixed expenses = 318000*2 = $636000

New contribution margin ratio = (25-9)/25 *100

= 64%

New break even point in balls = 636000/(25-9)

= 636000/16

= 39750 balls

6 a) Sales quantity to earn a desired profit of $142000 = (Fixed cost+desired profit)/contribution per unit

=( 636000+142000)/16

= 778000/16

= 48625 balls

b) Contribution format Income Statement

Sales (46000*25)	1150000
(-) Variable expenses (46000*9)	(414000)
Contribution margin	736000
(-)Fixed expenses	(636000)
Net Operating Income	100000

Degree of operating leverage = contribution/EBIT

= 736000/100000

= 7.36