Question

Q1) BumpyRide Inc. manufactures commercial and residential riding lawnmowers. The com pany sells one commercial mower per four residential mowers sold. Selling prices for the com mercial and residential mowers are, respectively, $700 and $300. The variable selling and produc- tion costs are, respectively, $524 and $219. The company's annual fixed cost is $10,000. If the company's tax rate is 40% and it wants to earn $3,000 of income after tax next year, 1A) What are the target sales (in dollars)? 1B) What is the margin of safety in sales dollars?

Answer 1

Working Notes:

1. Contribution per unit = Selling price - variable cost

Residential = 300 - 219 = $ 81

Commercial = 700 - 524 = $ 176

2. Profit Volume Ratio = Contribution / Saelling price *100

Residential = 81 / 300 *100 = 27%

Commercial = 176 / 700 * 100 =25%

3. Composite Profit volume ratio = (27*30%) +(25*70%) = 25.6 or 26%

4. Desired income before taxes = Desired net income / (1-0.40) = $ 3,000 / (1-0.40) = $ 5,000

5. Desired Contribution = Annual Fixed cost + Desired income before taxes

= $ 10,000 + $ 5,000 = $ 15,000

Target Sales = Desired contribution / Composite PV ratio

= $ 15,000 / 26%

= $ 58,366

6. Break-even sales = Annual Fixed costs / Composite PV ratio

= $ 10,000 / 26%

= $ 38,911

Margin of safety Sales = Target Sales - Break-even Sales

= $ 58,366 - $ 38,911

= $ 19,455

1A. Target Sales = $ 58,366

1B. Margin of safety Sales = $ 19,455