Chap 007

CHAPTER 7
Cost-Volume-Profit Analysis
ANSWERS TO REVIEW QUESTIONS
7-1
a. In the contribution-margin approach, the break-even point in units is calculated

using the following formula:
Break-even point =
fixed expenses
unit contribution margin
b. In the equation approach, the following profit equation is used:
unit sales volume
sales price in units
fixed
unit
varia
ble
sales
volume
expenses = 0

in units
expense
This equation is solved for the sales volume in units.

c. In the graphical approach, sales revenue and total expenses are graphed. The
break-even point occurs at the intersection of the total revenue and total expense
lines.
7-2
The term unit contribution margin refers to the contribution that each unit of sales
makes toward covering fixed expenses and earning a profit. The unit contribution
margin is defined as the sales price minus the unit variable expense.
7-3
In addition to the break-even point, a CVP graph shows the impact on total expenses,
total revenue, and profit when sales volume changes. The graph shows the sales
volume required to earn a particular target net profit. The firm's profit and loss areas
are also indicated on a CVP graph.
7-4
The safety margin is the amount by which budgeted sales revenue exceeds breakeven sales revenue.
7-5
An increase in the fixed expenses of any enterprise will increase its break-even
point. In a travel agency, more clients must be served before the fixed expenses are
covered by the agency's service fees.
McGraw-Hill/Irwin
Inc.
Managerial Accounting, 8/e
2009 The McGraw-Hill Companies,

7- 1
7-6
A decrease in the variable expense per pound of oysters results in an increase in the
contribution margin per pound. This will reduce the company's break-even sales
volume.
7-7
The president is correct. A price increase results in a higher unit contribution

margin. An increase in the unit contribution margin causes the break-even point to
decline.
The financial vice president's reasoning is flawed. Even though the break-even
point will be lower, the price increase will not necessarily reduce the likelihood of a
loss. Customers will probably be less likely to buy the product at a higher price.
Thus, the firm may be less likely to meet the lower break-even point (at a high price)
than the higher break-even point (at a low price).
7-8
When the sales price and unit variable cost increase by the same amount, the unit
contribution margin remains unchanged. Therefore, the firm's break-even point
remains the same.
7-9
The fixed annual donation will offset some of the museum's fixed expenses. The
reduction in net fixed expenses will reduce the museum's break-even point.
7-10
A profit-volume graph shows the profit to be earned at each level of sales volume.
7-11
The most important assumptions of a cost-volume-profit analysis are as follows:

(a) The behavior of total revenue is linear (straight line) over the relevant range. This
behavior implies that the price of the product or service will not change as sales
volume varies within the relevant range.
(b) The behavior of total expenses is linear (straight line) over the relevant range.
This behavior implies the following more specific assumptions:
(1) Expenses can be categorized as fixed, variable, or semivariable.
(2) Efficiency and productivity are constant.
(c) In multiproduct organizations, the sales mix remains constant over the relevant
range.
(d) In manufacturing firms, the inventory levels at the beginning and end of the
period are the same.
7-12
Operating managers frequently prefer the contribution income statement because it

separates fixed and variable costs. This format makes cost-volume-profit
relationships more readily discernible.
McGraw-Hill/Irwin
Inc.
7-2

Solutions Manual
7-13
The gross margin is defined as sales revenue minus all variable and fixed
manufacturing expenses. The total contribution margin is defined as sales revenue
minus all variable expenses, including manufacturing, selling, and administrative
expenses.
7-14
East Company, which is highly automated, will have a cost structure dominated by
fixed costs. West Company's cost structure will include a larger proportion of
variable costs than East Company's cost structure.
A firm's operating leverage factor, at a particular sales volume, is defined as its
total contribution margin divided by its net income. Since East Company has
proportionately higher fixed costs, it will have a proportionately higher total
contribution margin. Therefore, East Company's operating leverage factor will be
higher.
7-15
When sales volume increases, Company X will have a higher percentage increase in
profit than Company Y. Company X's higher proportion of fixed costs gives the firm
a higher operating leverage factor. The company's percentage increase in profit can
be found by multiplying the percentage increase in sales volume by the firm's
operating leverage factor.
7-16
The sales mix of a multiproduct organization is the relative proportion of sales of its
products.
The weighted-average unit contribution margin is the average of the unit
contribution margins for a firm's several products, with each product's contribution
margin weighted by the relative proportion of that product's sales.
7-17
The car rental agency's sales mix is the relative proportion of its rental business
associated with each of the three types of automobiles: subcompact, compact, and
full-size. In a multi-product CVP analysis, the sales mix is assumed to be constant
over the relevant range of activity.
7-18
Cost-volume-profit analysis shows the effect on profit of changes in expenses, sales

prices, and sales mix. A change in the hotel's room rate (price) will change the
hotel's unit contribution margin. This contribution-margin change will alter the
relationship between volume and profit.
McGraw-Hill/Irwin
Inc.

7- 3
7-19
Budgeting begins with a sales forecast. Cost-volume-profit analysis can be used to

determine the profit that will be achieved at the budgeted sales volume. A CVP
analysis also shows how profit will change if the sales volume deviates from
budgeted sales.
Cost-volume-profit analysis can be used to show the effect on profit when
variable or fixed expenses change. The effect on profit of changes in variable or
fixed advertising expenses is one factor that management would consider in making
a decision about advertising.
7-20
The low-price company must have a larger sales volume than the high-price
company. By spreading its fixed expense across a larger sales volume, the low-price
firm can afford to charge a lower price and still earn the same profit as the high-price
company. Suppose, for example, that companies A and B have the following
expenses, sales prices, sales volumes, and profits.
Company A
Sales revenue:
350 units at $10..............................................
100 units at $20..............................................
Variable expenses:
350 units at $6................................................
100 units at $6................................................
Contribution margin.............................................
Fixed expenses....................................................
Profit.....................................................................
Company B
$3,500
$2,000
2,100
$1,400
1,000
$ 400
600
$1,400
1,000
$ 400
7-21
The statement makes three assertions, but only two of them are true. Thus the
statement is false. A company with an advanced manufacturing environment
typically will have a larger proportion of fixed costs in its cost structure. This will
result in a higher break-even point and greater operating leverage. However, the
firm's higher break-even point will result in a reduced safety margin.
7-22
Activity-based costing (ABC) results in a richer description of an organization's cost

behavior and CVP relationships. Costs that are fixed with respect to sales volume
may not be fixed with respect to other important cost drivers. An ABC system
recognizes these nonvolume cost drivers, whereas a traditional costing system does
not.
McGraw-Hill/Irwin
Inc.
7-4

Solutions Manual
SOLUTIONS TO EXERCISES
EXERCISE 7-23 (20 MINUTES)
1.
2.
3.
fixed expenses
Break-even point (in units) = unit contribution margin
Contribution-margin ratio
$54,000
= 13,500 pizzas
$10 $6

unit sales price
$10 $6
= .4
$10
Break-even point (in sales dollars)
fixed expenses
= contribution-margin ratio
=
4.
$54,000
= $135,000
.4
Let X denote the sales volume of pizzas required to earn a target net profit of
$60,000.
$10X $6X $54,000 = $60,000
$4X = $114,000
X = 28,500 pizzas
McGraw-Hill/Irwin
Inc.

7- 5
1
2
3
4
Sales
Revenue
$360,000
55,000
320,000 c
160,000
Variable
Expenses
$120,000
11,000
80,000
130,000
Total
Contribution
Margin
$240,000
44,000
240,000
30,000
Fixed
Expenses
$90,000
25,000
60,000
30,000d
Net
Income
$150,000
19,000
180,000
-0-
Break-Even
Sales
Revenue
$135,000 a
31,250b
80,000
160,000
Explanatory notes for selected items:

$135,000 = $90,000 (2/3), where 2/3 is the contribution-margin ratio.
$31,250 = $25,000/.80, where .80 is the contribution-margin ratio.
Break-even sales revenue...............................................................................

Fixed expenses................................................................................................
Variable expenses............................................................................................
$80,000
60,000
$20,000
Therefore, variable expenses are 25 percent of sales revenue.

When variable expenses amount to $80,000, sales revenue is $320,000.
d
$160,000 is the break-even sales revenue, so fixed expenses must be equal to the
contribution margin of $30,000 and profit must be zero.
McGraw-Hill/Irwin
Inc.
7-6

Solutions Manual

1.
Cost-volume-profit graph:
Dollars per year

Total revenue
$600,000
Total expenses
Break-even point:
20,000 tickets
$500,000
Profit
area
Variable
expense
(at 30,000
tickets)
$400,000
$300,000
Loss area
$200,000
Annual fixed
expenses
$100,000
5,000
McGraw-Hill/Irwin
Inc.
10,000
15,000
20,000
25,000
30,000
Tickets sold
per year

7- 7
EXERCISE 7-25 (CONTINUED)

2.
Stadium capacity................................................
Attendance rate...................................................
Attendance per game.........................................
6,000
2/3
4,000
Break - even point (tickets) 20,000

=
=5
Attendance per game
4,000
The team must play 5 games to break even.
McGraw-Hill/Irwin
Inc.
7-8

Solutions Manual

1.
Profit-volume graph:
Dollars per year

$300,000
$200,000
$100,000
Break-even point:
20,000 tickets
0
$(100,000)
5,000
10,000
15,000
Profit area
20,000
25,000
Tickets sold
per year
Loss
area
$(200,000)
Annual fixed
expenses
$(300,000)
$(360,000)
McGraw-Hill/Irwin
Inc.

7- 9
McGraw-Hill/Irwin
Inc.
7-10

Solutions Manual

2.
Safety margin:
Budgeted sales revenue
(10 games 6,000 seats .45 full $20)...............................................
Break-even sales revenue
(20,000 tickets $20)...............................................................................
Safety margin.................................................................................................
3.
$540,000
400,000
$140,000
Let P denote the break-even ticket price, assuming a 10-game season and 40 percent
attendance:
(10)(6,000)(.40)P (10)(6,000)(.40)($2) $360,000 = 0
24,000P
P
McGraw-Hill/Irwin
Inc.
= $408,000
= $17 per ticket

7- 11

1.
Break-even point (in units)
fixed costs
= unit contribution margin

2,000,000p
= 1,500p 1,000p = 4,000 components

p denotes Argentinas peso.
2.
New break-even point (in units)
(2,000,000p ) (1.05)
1,500 p 1,000 p
2,100,000 p
500 p
= 4,200 components
3.
Sales revenue (7,000 1,500p)

................................................. 10,500,000p
Variable costs (7,000 1,000p)........................................................ 7,000,000p
Contribution margin......................................................................... 3,500,000p
Fixed costs........................................................................................ 2,000,000p
Net income........................................................................................ 1,500,000p
4.
New break-even point (in units) = 1,400p 1,000 p
2,000,000 p
= 5,000 components
5.
Analysis of price change decision:

Price
1,500p
10,500,000p
Sales revenue: (7,000 1,500p).................................
(8,000 1,400p).................................
7,000,000p
Variable costs: (7,000 1,000p).................................
(8,000 1,000p).................................
3,500,000p
Contribution margin....................................................
2,000,000p
Fixed expenses ............................................................
1,500,000p
Net income (loss).........................................................
1,400p
11,200,000p
8,000,000p
3,200,000p
2,000,000p
1,200,000p
The price cut should not be made, since projected net income will decline by
300,000p.
McGraw-Hill/Irwin
Inc.
7-12

Solutions Manual

1.
(a) Traditional income statement:

PACIFIC RIM PUBLICATIONS, INC.
INCOME STATEMENT
FOR THE YEAR ENDED DECEMBER 31, 20XX
Sales .........................................................................
Less: Cost of goods sold.........................................
Gross margin...............................................................
Less: Operating expenses:
Selling expenses............................................
Administrative expenses...............................
Net income...................................................................
$1,000,000
750,000
$ 250,000
$75,000
75,000
150,000
$ 100,000
(b) Contribution income statement:

PACIFIC RIM PUBLICATIONS, INC.
INCOME STATEMENT
FOR THE YEAR ENDED DECEMBER 31, 20XX
Sales .........................................................................
Less: Variable expenses:
Variable manufacturing..................................
Variable selling...............................................
Variable administrative..................................
Contribution margin....................................................
Less: Fixed expenses:
Fixed manufacturing......................................
Fixed selling...................................................
Fixed administrative.......................................
Net income...................................................................
2.
$1,000,000
$500,000
50,000
15,000
$ 250,000
25,000
60,000
565,000
$ 435,000
335,000
$ 100,000
contribution margin
net income
$435,000
=
= 4.35
$100,000
Operating leverage factor (at $1,000,000 sales level) =
McGraw-Hill/Irwin
Inc.

7- 13

3.
percentage increase operating

Percentage increase in et income =
i nsalesrev nue lev ragefactor
= 12% 4.35
= 52.2%
4.
Most operating managers prefer the contribution income statement for answering this
type of question. The contribution format highlights the contribution margin and
separates fixed and variable expenses.

Answers will vary on this question, depending on the airline selected as well as the year of
the inquiry. In a typical year, most airlines report a breakeven load factor of around 65
percent.
McGraw-Hill/Irwin
Inc.
7-14

Solutions Manual

1.
Bicycle Type
High-quality
Medium-quality
2.
Sales
Price
$1,000
600
Unit
Variable Cost
$600 ($550 + $50)
300 ($270 + $30)
Unit
Contribution Margin
$400
300
Sales mix:
High-quality bicycles........................................................................................
Medium-quality bicycles...................................................................................
3.
Weighted-average unit
contribution margin
30%
70%
= ($400 30%) + ($300 70%)

= $330
4.
fixed expenses
weighted - average unit contribution margin
$148,500
=
= 450 bicycles
$330
Break - even point (in units) =
Bicycle Type
High-quality bicycles
Medium-quality bicycles
Total
5.
Break-Even
Sales Volume
135 (450 .30)
315 (450 .70)
Sales Price
$1,000
600
Sales
Revenue
$135,000
189,000
$324,000
Target net income:

$148,500 + $99,000
$330
= 750 bicycles
Sales volume required to earn target net income of $99,000 =
This means that the shop will need to sell the following volume of each type of
bicycle to earn the target net income:
High-quality...........................................................................
Medium-quality.....................................................................
225 (750 .30)

525 (750 .70)

1.
The following income statement, often called a common-size income statement,

provides a convenient way to show the cost structure.
McGraw-Hill/Irwin
Inc.

7- 15
Revenue.......................................................
Variable expenses......................................
Contribution margin...................................
Fixed expenses...........................................
Net income..................................................
Amount
$1,500,000
900,000
$600,000
450,000
$ 150,000
Percent
100
60
40
30
10
2.
Decrease in
Revenue
$300,000*
Contribution Margin
Percentage
40%
Decrease in
Net Income
$120,000
*$300,000 = $1,500,000 20%
40% = $600,000/$1,500,000
3.
contribution margin
net income
$600,000
=
=4
$150,000
Operating leverage factor (at revenue of $1,500,000) =
McGraw-Hill/Irwin
Inc.
7-16

Solutions Manual
4.
percentageincrease operatinglev rage

Percentagechangein etincome=
inrevenue factor
= 25% 4
= 10 %
McGraw-Hill/Irwin
Inc.

7- 17

Revenue.......................................................
Less: Variable expenses...........................
Contribution margin....................................
Less: Fixed expenses................................
Net Income (loss)........................................
Requirement (1)
$1,875,000
1,125,000
$ 750,000
675,000
$ 75,000
Requirement (2)
$1,500,000
1,800,000
$ (300,000)
350,000
$ (650,000)

fixed expenses
contribution margin ratio
$200,000
=
= $800,000
.25
1.
Break - even volume of service revenue =
2.
Target before - tax income =
target after - tax net income

1 tax rate
$120,000
=
= $200,000
1 .40

(1 t )
=
$120,000
$200,000 +
1 .40 = $1,600,000
=
.25
fixed expenses +
3.
Service revenue required to earn

target after-tax income of
$120,000
4.
A change in the tax rate will have no effect on the firm's break-even point. At the breakeven point, the firm has no profit and does not have to pay any income taxes.
McGraw-Hill/Irwin
Inc.
7-18

Solutions Manual
SOLUTIONS TO PROBLEMS
PROBLEM 7-34 (30 MINUTES)
1.
Break-even point in sales dollars, using the contribution-margin ratio:

fixed expenses
contribution - margin ratio
$540,000 + $216,000 $756,000
=
=
$30 $12 $6
.4
$30
= $1,890,000
Break - even point =
2.
Target net income, using contribution-margin approach:

fixed expenses + target net income
$756,000 + $540,000 $1,296,000
=
=
$30 $12 $6
$12
= 108,000 units
Sales units required to earn income of $540,000 =
3.
New unit variable manufacturing cost
= $12 110%
= $13.20
Break-even point in sales dollars:

$756,000
$756,000
=
$30.00 $13.20 $6.00
.36
$30
=$2,100,000
McGraw-Hill/Irwin
Inc.

7- 19
PROBLEM 7-34 (CONTINUED)

4.
Let P denote the selling price that will yield the same contribution-margin ratio:
$30.00 $12.00 $6.00
P $13.20 $6.00
=
$30.00
P
P $19.20
.4 =
P
.4P = P $19.20
$19.20 = .6P
P = $19.20/.6
P = $32.00
Check: New contribution-margin ratio is:

$32.00 $13.20 $6.00
=.4
$32.00
McGraw-Hill/Irwin
Inc.
7-20

Solutions Manual

fixed costs
$702,000
=
= 135,000 units
$25.00 $19.80
1.
2.
Break - even point (in sales dollars) =
3.
Number of sales units required to

earn target net profit
4.
Margin of safety = budgeted sales revenue break-even sales revenue
fixed cost
$702,000
=
= $3,375,000
$25.00 $19.80
$25.00
fixed costs + target net profit
$702,000 +$390,000
=
=210,000 units
$25.00 $19.80
=
= (140,000)($25) $3,375,000 = $125,000

5.
Break-even point if direct-labor costs increase by 10 percent:

New unit contribution margin
= $25.00 $8.20 ($4.00)(1.10) $6.00 $1.60

= $4.80
fixed costs
Break-even point = new unit contribution margin

=
McGraw-Hill/Irwin
Inc.
$702,000
=146,250 units
$4.80

7- 21

6.
Contribution margin ratio

sales price
$25.00 $19.80
$25.00
=.208
Old contribution-margin ratio =
Let P denote sales price required to maintain a contribution-margin ratio of .208. Then
P is determined as follows:
P $8.20 ($4.00)(1.10) $6.00 $1.60
= .208
P
P $20.20 = .208P
.792P = $20.20
P = $25.51 (rounded)
Check:
McGraw-Hill/Irwin
Inc.
7-22
New contributionmargin ratio
$25.51 $8.20 ($4.00)(1.10) $6.00 $1.60

$25.51
=.208 (rounded)
=

Solutions Manual

1.
Break-even point in units, using the equation approach:

$24X ($15 + $3)X $1,800,000 = 0
$6X = $1,800,000
X =
$1,800,000
$6
= 300,000 units
2.
New projected sales volume = 400,000 110%

= 440,000 units
Net income = (440,000)($24 $18) $1,800,000
= (440,000)($6) $1,800,000
= $2,640,000 $1,800,000 = $840,000
3.
Target net income = $600,000 (from original problem data)

New disk purchase price = $15 130% = $19.50
Volume of sales dollars required:
Volume of sales dollars required
McGraw-Hill/Irwin
Inc.
fixed expenses + target net profit

$1,800,000 +$600,000
$2,400,000
=
=
$24 $19.50 $3
.0625
$24
= $38,400,000
=

7- 23

4.
Let P denote the selling price that will yield the same contribution-margin ratio:
$24 $15 $3
P $19.50 $3
=
$24
P
P $22.50
.25 =
P
.25 P = P $22.50
$22.50 = .75 P
P = $22.50/.75
P = $30
Check: New contribution-margin ratio is:

$30 $22.50
=.25
$30
5.
The electronic version of the Solutions Manual BUILD A SPREADSHEET

SOLUTIONS is available on your Instructors CD and on the Hilton, 8e website:
www.mhhe.com/hilton8e.
McGraw-Hill/Irwin
Inc.
7-24

Solutions Manual

1.
Unit contribution margin:

Sales price
Less variable costs:
Sales commissions ($32 x 5%) $ 1.60
System variable costs
8.00
Unit contribution margin..
$32.00
9.60
$22.40
Break-even point = fixed costs unit contribution margin

= $1,971,200 $22.40
= 88,000 units
2.
Model A is more profitable when sales and production average 184,000 units.
Sales revenue (184,000 units x $32.00)...

Sales commissions ($5,888,000 x 5%)
System variable costs:
184,000 units x $8.00.
184,000 units x $6.40.
Total variable costs..
Contribution margin...
Less: Annual fixed costs..
Net income
3.
Model A
Model B
$5,888,000
$5,888,000
$ 294,400
$ 294,400
1,472,000
$1,766,400
$4,121,600
1,971,200
$2,150,400
1,177,600
$1,472,000
$4,416,000
2,227,200
$2,188,800
Annual fixed costs will increase by $180,000 ($900,000 5 years) because of

straight-line depreciation associated with the new equipment, to $2,407,200
($2,227,200 + $180,000). The unit contribution margin is $24 ($4,416,000 184,000
units). Thus:
Required sales = (fixed costs + target net profit) unit contribution margin
= ($2,407,200 + $1,912,800) $24
= 180,000 units
4.
Let X = volume level at which annual total costs are equal

$8.00X + $1,971,200 = $6.40X + $2,227,200
$1.60X = $256,000
X = 160,000 units
McGraw-Hill/Irwin
Inc.

7- 25

1.
Closing of mall store:

Loss of contribution margin at Mall Store..................................................... $(108,000)
Savings of fixed cost at Mall Store (75%)......................................................
90,000
Loss of contribution margin at Downtown Store (10%)................................ (14,400)
Total decrease in operating income............................................................... $ (32,400)
2.
Promotional campaign:
Increase in contribution margin (10%)...........................................................
Increase in monthly promotional expenses ($180,000/12)...........................
Decrease in operating income........................................................................
3.
$10,800
(15,000)
$(4,200)
Elimination of items sold at their variable cost:

We can restate the November 20x4 data for the Mall Store as follows:
Sales...................................................................................
Less: variable expenses...................................................
Contribution margin..........................................................
Mall Store
Items Sold at
Their
Variable Cost Other Items
$180,000*
$180,000*
180,000
72,000
$
-0$108,000
If the items sold at their variable cost are eliminated, we have:

Decrease in contribution margin on other items (20%)..............................
Decrease in fixed expenses (15%)................................................................
Decrease in operating income......................................................................
$(21,600)
18,000
$ (3,600)
*$180,000 is one half of the Mall Store's dollar sales for November 20x4.
4.

www.mhhe.com/hilton8e.
McGraw-Hill/Irwin
Inc.
7-26

Solutions Manual

1.
Sales mix refers to the relative proportion of each product sold when a company
sells more than one product.
2.
(a)
Yes. Plan A sales are expected to total 65,000 units (19,500 + 45,500), which
compares favorably against current sales of 60,000 units.
(b)
Yes. Sales personnel earn a commission based on gross dollar sales. As the
following figures show, Cold King sales will comprise a greater proportion of
total sales under Plan A. This is not surprising in light of the fact that Cold
King has a higher selling price than Mister Ice Cream ($43 vs. $37).
Current
Units
Mister Ice Cream..........
Cold King.....................
Total........................
(c)
21,000
39,000
60,000
Sales
Mix
35%
65%
100%
Plan A
Units
19,500
45,500
65,000
Sales
Mix
30%
70%
100%
Yes. Commissions will total $267,800 ($2,678,000 x 10%), which compares

favorably against the current flat salaries of $200,000.
Mister Ice Cream sales: 19,500 units x $37.............
Cold King sales: 45,500 units x $43........................
Total sales...........................................................
McGraw-Hill/Irwin
Inc.
$ 721,500
1,956,500
$2,678,000

7- 27

(d)
No. The company would be less profitable under the new plan.
Sales revenue:
Mister Ice Cream: 21,000 units x $37; 19,500 units x $37..............
Cold King: 39,000 units x $43; 45,500 units x $43..........................
Total revenue..............................................................................
Less variable cost:
Mister Ice Cream: 21,000 units x $20.50; 19,500 units x $20.50....
Cold King: 39,000 units x $32.50; 45,500 units x $32.50................
Sales commissions (10% of sales revenue)...................................
Total variable cost......................................................................
Contribution margin...............................................................................
Less fixed cost (salaries).......................................................................
Net income..............................................................................................
3.
(a)
Plan A
$ 777,000
1,677,000
$2,454,000
$ 721,500
1,956,500
$2,678,000
$ 430,500
1,267,500
$ 399,750
1,478,750
267,800
$2,146,300
$ 531,700
----___
$ 531,700
$1,698,000
$ 756,000
200,000
$ 556,000
The total units sold under both plans are the same; however, the sales mix
has shifted under Plan B in favor of the more profitable product as judged by
the contribution margin. Cold King has a contribution margin of $10.50
($43.00 - $32.50), and Mister Ice Cream has a contribution margin of $16.50
($37.00 - $20.50).
Plan A
Units
Mister Ice Cream..............
Cold King..........................
Total.............................
McGraw-Hill/Irwin
Inc.
7-28
Current
19,500
45,500
65,000
Plan B
Sales
Mix
30%
70%
100%
Units
39,000
26,000
65,000
Sales
Mix
60%
40%
100%

Solutions Manual

(b)
Plan B is more attractive both to the sales force and to the company.
Salespeople earn more money under this arrangement ($274,950 vs.
$200,000), and the company is more profitable ($641,550 vs. $556,000).
Sales revenue:
Mister Ice Cream: 21,000 units x $37; 39,000 units x $37
.................................................................................................................
Cold King: 39,000 units x $43; 26,000 units x $43
.................................................................................................................
Total
revenue
.................................................................................................................
Less variable cost:
Mister Ice Cream: 21,000 units x $20.50; 39,000 units x $20.50
.................................................................................................................
Cold King: 39,000 units x $32.50; 26,000 units x $32.50
.................................................................................................................
Total
variable
cost
.................................................................................................................
Less: Sales force compensation:
Flat
salaries
.................................................................................................................
Commissions
($916,500
x
30%)
.................................................................................................................
Net income..............................................................................................
McGraw-Hill/Irwin
Inc.
Current
Plan B
$ 777,000
$1,443,000
1,677,000
1,118,000
$2,454,000
$2,561,000
$ 430,500
$ 799,500
1,267,500
845,000
$1,698,000
$1,644,500
$ 756,000
$ 916,500
200,000
274,950
$ 556,000
$ 641,550

7- 29

1.
Current income:
Sales revenue...
Less: Variable costs $1,008,000
Fixed costs. 2,736,000
Net income.
$4,032,000
3,744,000
$ 288,000
CompTronics has a contribution margin of $72 [($4,032,000 - $1,008,000) 42,000

sets] and desires to increase income to $576,000 ($288,000 x 2). In addition, the
current selling price is $96 ($4,032,000 42,000 sets). Thus:
Required sales = (fixed costs + target net profit) unit contribution margin
= ($2,736,000 + $576,000) $72
= 46,000 sets, or $4,416,000 (46,000 sets x $96)
2.
If operations are shifted to Mexico, the new unit contribution margin will be $74.40
($96.00 - $21.60). Thus:
Break-even point = fixed costs unit contribution margin
= $2,380,800 $74.40
= 32,000 units
3.
(a)
CompTronics desires to have a 32,000-unit break-even point with a $72 unit
contribution margin. Fixed costs must therefore drop by $432,000 ($2,736,000 $2,304,000), as follows:
Let X = fixed costs
X $72 = 32,000 units
X = $2,304,000
(b)
As the following calculations show, CompTronics will have to generate a

contribution margin of $85.50 to produce a 32,000-unit break-even point.
Based on a $96.00 selling price, this means that the company can incur
variable costs of only $10.50 per unit. Given the current variable cost of
$24.00 ($96.00 - $72.00), a decrease of $13.50 per unit ($24.00 - $10.50) is
needed.
Let X = unit contribution margin
$2,736,000 X = 32,000 units
X = $85.50
McGraw-Hill/Irwin
Inc.
7-30

Solutions Manual

4.
(a)
Increase
(b)
No effect
(c)
Increase
(d)
No effect

1.
Break-even sales volume for each model:

Break -even volume =
(a)
(b)
(c)
annual rental cost

Standard model:
Break - even volume =
$16,000
= 25,000 tubs
$3.50 $2.86
$22,000
= 27,500 tubs
$3.50 $2.70
$40,000
= 40,816 tubs (rounded)
$3.50 $2.52
Super model:
Giant model:
McGraw-Hill/Irwin
Inc.

7- 31

2. Profit-volume graph:
Dollars per year (in

thousands)
Profit
$40
$20
Break-even point:
40,816 tubs
0
10
20
30
Profit area
40
50
Tubs sold
per year
(in thousands)
Loss
Loss
area
($20)
($40)
McGraw-Hill/Irwin
Inc.
7-32
Fixed rental cost: $40,000 per year

Solutions Manual

3.
The sales price per tub is the same regardless of the type of machine selected.
Therefore, the same profit (or loss) will be achieved with the Standard and Super
models at the sales volume, X, where the total costs are the same.
Model
Standard.....................................................
Super..........................................................
Variable Cost
per Tub
$2.86
2.70
Total
Fixed Cost
$16,000
22,000
This reasoning leads to the following equation: 16,000 + 2.86X = 22,000 + 2.70X
Rearranging terms yields the following:
(2.86 2.70)X = 22,000 16,000

.16X = 6,000
X = 6,000/.16
X = 37,500
Or, stated slightly differently:

Volume at which both machines
produce the same profit
fixed cost differential

variable cost differential
$6,000
=
$.16
= 37,500 tubs
=
Check: the total cost is the same with either model if 37,500 tubs are sold.
Standard
Variable cost:
Standard, 37,500 $2.86...........................
Super, 37,500 $2.70................................
Fixed cost:
Standard, $16,000......................................
Super, $22,000............................................
Total cost.........................................................
Super
$107,250
$101,250
16,000
$123,250
22,000
$123,250
Since the sales price for popcorn does not depend on the popper model, the sales
revenue will be the same under either alternative.
McGraw-Hill/Irwin
Inc.

7- 33

1. CVP graph:
Total revenue
Dollars per year
(in millions)
20
18
16
14
Profit
area
Break-even point:
80,000 units or
$8,000,000 of sales
Total expenses
12
10
8
6
Loss
4 area
Fixed expenses
2
50
McGraw-Hill/Irwin
Inc.
7-34
100
150
200
Units sold per year

(in thousands)

Solutions Manual

2.
Break-even point:
contribution margin $12,000,000
=
=.75
sales
$16,000,000
fixed expenses
$6,000,000
=
.75
= $8,000,000
Contribution - margin ratio =
3.
Margin of safety = budgeted sales revenue break-even sales revenue

= $16,000,000 $8,000,000 = $8,000,000
contribution margin (at budgeted sales)
net income (at budgeted sales)
$12,000,000
=
=2
$6,000,000
4.
Operating leverage factor

(at budgeted sales)
5.
Dollar sales required to

earn target net profit
6.
fixed expenses + target net profit

$6,000,000 + $9,000,000
=
= $20,000,000
.75
Cost structure:
Sales revenue.......................................................
Variable expenses................................................
Contribution margin.............................................
Fixed expenses....................................................
Net income............................................................
McGraw-Hill/Irwin
Inc.
Amount
$16,000,000
4,000,000
$12,000,000
6,000,000
$ 6,000,000
Percent
100.0
25.0
75.0
37.5
37.5

7- 35

1.
Plan A break-even point = fixed costs unit contribution margin

= $33,000 $33*
= 1,000 units
Plan B break-even point = fixed costs unit contribution margin
= $99,000 $45**
= 2,200 units
* $120 - [($120 x 10%) + $75]
** $120 - $75
2.
Operating leverage refers to the use of fixed costs in an organizations overall cost
structure. An organization that has a relatively high proportion of fixed costs and
low proportion of variable costs has a high degree of operating leverage.
McGraw-Hill/Irwin
Inc.
7-36

Solutions Manual

3.
Calculation of contribution margin and profit at 6,000 units of sales:
Sales revenue: 6,000 units x $120.

Cost of purchasing product:
6,000 units x $75.
Sales commissions: $720,000 x 10%...
Total variable cost..
Contribution margin
Fixed costs.
Net income.
Plan A
Plan B
$720,000
$720,000
$450,000
72,000
$522,000
$198,000
33,000
$165,000
$450,000
----__
$450,000
$270,000
99,000
$171,000
Plan A has a higher percentage of variable costs to sales (72.5%) compared to Plan
B (62.5%). Plan Bs fixed costs are 13.75% of sales, compared to Plan As 4.58%.
Operating leverage factor = contribution margin net income
Plan A: $198,000 $165,000 = 1.2
Plan B: $270,000 $171,000 = 1.58 (rounded)
Plan B has the higher degree of operating leverage.
4 & 5. Calculation of profit at 5,000 units:
Sales revenue: 5,000 units x $120.
Cost of purchasing product:
5,000 units x $75..
Sales commissions: $600,000 x 10%...
Total variable cost..
Contribution margin
Fixed costs
Net income.
McGraw-Hill/Irwin
Inc.
Plan A
Plan B
$600,000
$600,000
$375,000
60,000
$435,000
$165,000
33,000
$132,000
$375,000
---- __
$375,000
$225,000
99,000
$126,000

7- 37

Plan A profitability decrease:
$165,000 - $132,000 = $33,000; $33,000 $165,000 = 20%
Plan B profitability decrease:
$171,000 - $126,000 = $45,000; $45,000 $171,000 = 26.3% (rounded)
PneumoTech would experience a larger percentage decrease in income if it adopts
Plan B. This situation arises because Plan B has a higher degree of operating
leverage. Stated differently, Plan Bs cost structure produces a greater percentage
decline in profitability from the drop-off in sales revenue.
Note: The percentage decreases in profitability can be computed by multiplying the
percentage decrease in sales revenue by the operating leverage factor. Sales
dropped from 6,000 units to 5,000 units, or 16.67%. Thus:
Plan A: 16.67% x 1.2 = 20.0%
Plan B: 16.67% x 1.58 = 26.3% (rounded)
6.
Heavily automated manufacturers have sizable investments in plant and equipment,

along with a high percentage of fixed costs in their cost structures. As a result,
there is a high degree of operating leverage.
In a severe economic downturn, these firms typically suffer a significant
decrease in profitability. Such firms would be a more risky investment when
compared with firms that have a low degree of operating leverage. Of course, when
times are good, increases in sales would tend to have a very favorable effect on
earnings in a company with high operating leverage.
McGraw-Hill/Irwin
Inc.
7-38

Solutions Manual

1.
Break-even point in units:

Break -even point =
fixed costs
Calculation of contribution margins:
Selling price......................................
Variable costs:
Direct material..............................
Direct labor...................................
Variable overhead........................
Variable selling cost.....................
Contribution margin per unit
(a)
LaborIntensive
Production
System
$45.00
$8.40
10.80
7.20
3.00
29.40
$15.60
ComputerAssisted
Manufacturing
System
$45.00
$7.50
9.00
4.50
3.00
24.00
$21.00
Labor-intensive production system:

$1,980,000 + $750,000
$15.60
$2,730,000
=
$15.60
=175,000 units
Break - even point in units =
(b)
Computer-assisted manufacturing system:

$3,660,000 + $750,000
$21
$4,410,000
=
$21
= 210,000 units
Break - even point in units =
McGraw-Hill/Irwin
Inc.

7- 39

2.
Zodiacs management would be indifferent between the two manufacturing methods

at the volume (X) where total costs are equal.
$29.40X + $2,730,000 =
$24X + $4,410,000
$5.40X =
$1,680,000
X =
311,111 units*
*Rounded
3.
Operating leverage is the extent to which a firm's operations employ fixed operating
costs. The greater the proportion of fixed costs used to produce a product, the
greater the degree of operating leverage. Thus, the computer-assisted
manufacturing method utilizes a greater degree of operating leverage.
The greater the degree of operating leverage, the greater the change in
operating income (loss) relative to a small fluctuation in sales volume. Thus, there
is a higher degree of variability in operating income if operating leverage is high.
4.
Management should employ the computer-assisted manufacturing method if annual

sales are expected to exceed 311,111 units and the labor-intensive manufacturing
method if annual sales are not expected to exceed 311,111 units.
5.
Zodiacs management should consider many other business factors other than
operating leverage before selecting a manufacturing method. Among these are:
Variability or uncertainty with respect to demand quantity and selling price.

The ability to produce and market the new product quickly.
The ability to discontinue production and marketing of the new product while
incurring the least amount of loss.
McGraw-Hill/Irwin
Inc.
7-40

Solutions Manual

1.
In order to break even, during the first year of operations, 10,220 clients must visit the
law office being considered by Steven Clark and his colleagues, as the following
calculations show.
Fixed expenses:
Advertising...............................................................................
$ 980,000
Rent (6,000 $56)....................................................................
336,000
Property insurance..................................................................
54,000
Utilities .....................................................................................
74,000
Malpractice insurance.............................................................
360,000
Depreciation ($120,000/4)........................................................
30,000
Wages and fringe benefits:
Regular wages
($50 + $40 + $30 + $20) 16 hours 360 days......... $806,400
Overtime wages
(200 $30 1.5) + (200 $20 1.5)..........................
15,000
Total wages............................................................ $821,400
Fringe benefits at 40%....................................................... 328,560 1,149,960
Total fixed expenses......................................................................
$2,983,960
McGraw-Hill/Irwin
Inc.

7- 41

Break-even point:
0 = revenue variable cost fixed cost
0 = $60X + ($4,000 .2X .3)* $8X $2,983,960
0 = $60X + $240X $8X $2,983,960
$292X = $2,983,960
X = 10,220 clients (rounded)
*Revenue calculation:
$60X represents the $60 consultation fee per client. ($4,000 .2X .30) represents
the predicted average settlement of $4,000, multiplied by the 20% of the clients
whose judgments are expected to be favorable, multiplied by the 30% of the
judgment that goes to the firm.
2.
Safety margin:
Safety margin = budgeted sales revenue break-even sales revenue
Budgeted (expected) number of clients = 50 360 = 18,000
Break-even number of clients = 10,220 (rounded)
Safety margin = [($60 18,000) + ($4,000 18,000 .20 .30)]
[($60 10,220) + ($4,000 10,220 .20 .30)]
= [$60 + ($4,000 .20 .30)] (18,000 10,220)
= $300 7,780
= $2,334,000
McGraw-Hill/Irwin
Inc.
7-42

Solutions Manual
$1,250,000
Unit contribution margin =
25,000
1.
=
$20 per uni
fixe
unit contri
$300,000
=
$20
2.
3.
Number of sales units required

to earn target net profit
New break - even point (in units) =

=
fixed costs + target net profit

$300,000 +$280,000
=29,000 units
$20
new fixed costs

new unit contribution margin
$300,000 + ($36,000/6) *
= 19,125 units
$20 $4
*Annual straight-line depreciation on new machine
$4.00 = $9.00 $5.00 increase in the unit cost of the new part
4.

to earn target net profit, given
manufacturing changes
new fixed costs + target net profit

new unit contribution margin
$306,000 + $200,000 *
=
$16
= 31,625 units
=
*Last year's profit: ($50)(25,000) $1,050,000 = $200,000
McGraw-Hill/Irwin
Inc.

7- 43

sales price
$20
Old contribution - margin ratio =
= .40
$50 *
5.
*Sales price, given in problem.

Let P denote the price required to cover increased direct-material cost and maintain
the same contribution margin ratio:
P $30 * $4
P
P $34
.60P
P
= .40
= .40P
= $34
= $56.67 (rounded)
*Old unit variable cost = $30 = $750,000 25,000 units
Increase in direct-material cost = $4
Check:
$56.67 $30 $4
$56.67
= .40 (rounded)
New contribution - margin ratio =
McGraw-Hill/Irwin
Inc.
7-44

Solutions Manual

1.
Memorandum
Date:
Today
To:
Vice President for Manufacturing, Saturn Game Company
From:
I.M. Student, Controller
Subject:
Activity-Based Costing
The $300,000 cost that has been characterized as fixed is fixed with respect to sales
volume. This cost will not increase with increases in sales volume. However, as the activitybased costing analysis demonstrates, these costs are not fixed with respect to other
important cost drivers. This is the difference between a traditional costing system and an
ABC system. The latter recognizes that costs vary with respect to a variety of cost drivers,
not just sales volume.
2.
New break-even point if automated manufacturing equipment is installed:

Sales price.....................................................................................................
Costs that are variable (with respect to sales volume):
Unit variable cost (.8 $750,000 25,000)...........................................
Unit contribution margin..............................................................................
Costs that are fixed (with respect to sales volume):
Setup (300 setups at $100 per setup)...........................................
Engineering (800 hours at $56 per hour).....................................
Inspection (100 inspections at $90 per inspection)....................
General factory overhead..............................................................
Total..........................................................................................
Fixed selling and administrative costs..............................................
Total costs that are fixed (with respect to sales volume)...........
=
$52
24
$28
$ 30,000
44,800
9,000
332,200
$416,000
60,000
$476,000
fixed costs
$476,000
$28
=17,000 units
McGraw-Hill/Irwin
Inc.

7- 45

3.
Sales (in units) required to show a profit of $280,000:

to earn target net profit
4.
fixed cost + target net profit

$476,000 + $280,000
=
$28
= 27,000 units
=
If management adopts the new manufacturing technology:

(a)
Its break-even point will be higher (17,000 units instead of 15,000 units).
(b)
The number of sales units required to show a profit of $280,000 will be lower
(27,000 units instead of 29,000 units).
(c)
These results are typical of situations where firms adopt advanced manufacturing
equipment and practices. The break-even point increases because of the
increased fixed costs due to the large investment in equipment. However, at
higher levels of sales after fixed costs have been covered, the larger unit
contribution margin ($28 instead of $20) earns a profit at a faster rate. This results
in the firm needing to sell fewer units to reach a given target profit level.
McGraw-Hill/Irwin
Inc.
7-46

Solutions Manual

5.
The controller should include the break-even analysis in the report. The Board of
Directors needs a complete picture of the financial implications of the proposed
equipment acquisition. The break-even point is a relevant piece of information. The
controller should accompany the break-even analysis with an explanation as to
why the break-even point will increase. It would also be appropriate for the
controller to point out in the report that the advanced manufacturing equipment
would require fewer sales units at higher volumes in order to achieve a given
target profit, as in requirement (3) of this problem.
To withhold the break-even analysis from the controller's report would be a
violation of the following ethical standards:
(a)
Competence: Prepare complete and clear reports and recommendations after

appropriate analysis of relevant and reliable information.
(b)
Integrity: Communicate unfavorable as well as favorable information and

professional judgments or opinions.
(c)
Objectivity: Communicate information fairly and objectively. Disclose fully all

relevant information that could reasonably be expected to influence an intended
user's understanding of the reports, comments, and recommendations presented.
McGraw-Hill/Irwin
Inc.

7- 47

1.
Unit contribution margin =
$810,000
=$450 per ton
1,800
Break - even volume in tons =
fixed costs
2.
$495,000
=1,100 tons
$450
Projected net income for sales of 2,100 tons:

Projected contribution margin (2,100 $450).......................................
Projected fixed costs...............................................................................
Projected net income...............................................................................
3.
$945,000
495,000
$450,000
Projected net income including foreign order:

Variable cost per ton = $990,000/1,800 = $550 per ton
Sales price per ton for regular orders = $1,800,000/1,800 = $1,000 per ton
Sales in tons.....................................................................
Contribution margin per ton:
Foreign order ($900 $550).......................................
Regular sales ($1,000 $550)....................................
Total contribution margin................................................
Foreign
Order
1,500
$350
$525,000
Contribution margin on foreign order.......................................................

Contribution margin on Regular sales......................................................
Total contribution margin...........................................................................
Fixed costs..................................................................................................
Net income...................................................................................................
McGraw-Hill/Irwin
Inc.
7-48
Regular
Sales
1,500
$450
$675,000
$ 525,000
675,000
$1,200,000
495,000
$ 705,000

Solutions Manual

4.
New sales territory:

To maintain its current net income, Central Pennsylvania Limestone Company just
needs to break even on sales in the new territory.
Break - even point in tons =
=
5.
fixed costs in new territory

unit contribution margin on sales in new territory
$123,000
=307.5 tons
$450 $50
Automated production process:

$495,000 +
$117,000
Break - even point in tons =
$450 +
$50
$612,000
=
=
1,224 tons
$500
Break - even point in sales dollars =

1,224 tons
$1,000 per
=
$1,224,000
6.
Changes in selling price and unit variable cost:

New unit
contribution mar
New contribution margin ra
Dollar
McGraw-Hill/Irwin
Inc.
sales required to earn target net pro

7- 49

1.
TOLEDO TOOL COMPANY
BUDGETED INCOME STATEMENT
FOR THE YEAR ENDED DECEMBER 31, 20X4
Hedge
Clippers
$84
$39
15
$54
$30
50,000
$1,500,000
Unit selling price..........................

Variable manufacturing cost.......
Variable selling cost....................
Total variable cost.......................
Contribution margin per unit......
Unit sales......................................
Total contribution margin.......
Line
Trimmers
$108
$ 36
12
$ 48
$ 60
50,000
$3,000,000
Leaf Blowers
$144
$ 75
18
$ 93
$ 51
100,000
$5,100,000
Fixed manufacturing overhead...

Fixed selling and
administrative costs................
Total fixed costs......................
Income before taxes....................
Income taxes (40%).....................
Budgeted net income..................
Total
$9,600,000
$6,000,000
1,800,000
$7,800,000
$1,800,000
720,000
$1,080,000
2.
Hedge Clippers.......................................
Line Trimmers........................................
Leaf Blowers...........................................
contribution margin..........................
(a)
Unit
Contribution
$30
60
51
(b)
Sales
Proportion
.25
.25
.50
(a) (b)
$ 7.50
15.00
25.50
$48.00
total fixed costs

$7,800,000
=
= 162,500 units
$48
Total unit sales to break even =
McGraw-Hill/Irwin
Inc.
7-50

Solutions Manual

Sales proportions:
Hedge Clippers.............................................
Line Trimmers...............................................
Leaf Blowers.................................................
Total...............................................................
Sales
Proportion
.25
.25
.50
Total Unit Product Line

Sales
Sales
162,500
40,625
162,500
40,625
162,500
81,250
162,500
3.
(a)
(b)
Unit
Sales
Contribution Proportion
Hedge Clippers..............................................
$30
.20
Line Trimmers*...............................................
57
.20
Leaf Blowers .................................................

36
.60
Weighted-average unit contribution margin
(a) (b)
$ 6.00
11.40
21.60
$39.00
*Variable selling cost increases. Thus, the unit contribution decreases to

$57 [$108 ($36 + $12 + $3)].
The variable manufacturing cost increases 20 percent. Thus, the unit contribution
decreases to $36 [$144 (1.2 $75) $18].
total fixed costs
$7,800,000
=
= 200,000 units
$39
Total unit sales to break even =
Sales proportions:
Sales
Proportions
Hedge Clippers.............................................
.20
Line Trimmers..............................................
.20
Leaf Blowers.................................................
.60
Total..............................................................
McGraw-Hill/Irwin
Inc.
Total Unit
Sales
200,000
200,000
200,000
Product Line
Sales
40,000
40,000
120,000
200,000

7- 51

1.
Unit contribution margin
(a)
sales
variable co
=
units sold
$2,000,000
$1,4
=
100,000
Break - even point (in units)
fixed costs
=
unit contribution m
$420,000
=
$6
=
70,00
contribution m
sales reven
(b)
$2,000,000
$
=
$2,000,0
fixed c
Break - even point (in sales dollars) =
contribution -
$420,000
=
=
$1
.3
2.
Number of units of sales required

to earn target after-tax net income

(1 t )
fixed costs +
=
$180,000
$720,000
(1 .4)
=
$6
$6
$420,000 +
=
=120,000 units
3.
If fixed costs increase by $63,000:

McGraw-Hill/Irwin
Inc.
7-52
$420,000 + $63,000
= 80,500 units
$6

Solutions Manual

4. Profit-volume graph:
Dollars per year

$1,500,000
$1,000,000
$500,000
Break-even point:
70,000 units
Loss 25,000
area
50,000
75,000
Profit
area
100,000
Units sold per

year
$(500,000)
$(1,000,000)
$(1,500,000)
McGraw-Hill/Irwin
Inc.

7- 53

5.
Number of units of sales

required to earn target
after-tax net income

(1 t )
fixed costs +
=
$420,000 +
=
$180,000
(1 .5)
$6
$780,000
$6
= 130,000 units
6.

WWW.MHHE.COM/HILTON8E.
McGraw-Hill/Irwin
Inc.
7-54

Solutions Manual

1.
2.
Contribution margin ratio =
$120.00 $79.20
=.34
$120.00
(1 t)
fixed expenses +
Number of units of sales required

to earn target after-tax income
$33,120
(1 .40) $530,400
X=
=
$120.00 $79.20
$40.80
$475,200 +
X = 13,000 units
3.
Break-even point (in units) for the

touring model
$554,400
=10,500 units
$132.00 $79.20
Let Y denote the variable cost of the mountaineering model such that the break-even
point for the mountaineering model is 10,500 units.
Then we have:
$475,200
$120.00 Y
(10,500) ($120.00 Y ) = $475,200
$1,260,000 10,500Y = $475,200
10,500Y = $784,800
Y = $74.74 (rounded)
10,500 =
Thus, the variable cost per unit would have to decrease by $4.46 ($79.20 $74.74).
McGraw-Hill/Irwin
Inc.

7- 55

$475,200 110%
$120.00 ($79.20)(90%)
$522,720
=
$48.72
=10,729 units (rounded)
4.
5.
New break - even point =
contribution margin
Break-even point
=(50% $52.80) +(50% $40.80)

=$46.80
fixed costs
=
$514,800
=
=11,000 units (or 5,500 of each type)
$46.80

1.
SUMMARY OF EXPENSES
Manufacturing....................................................................
Selling and administrative................................................
Interest...............................................................................
Costs from budgeted income statement.....................
If the company employs its own sales force:
Additional sales force costs.........................................
Reduced commissions [(.15 .10) $24,000]............
Costs with own sales force...............................................
If the company sells through agents:
Deduct cost of sales force............................................
Increased commissions [(.225 .10) $24,000].........
Costs with agents paid increased commissions............
McGraw-Hill/Irwin
Inc.
7-56
Expenses per Year

(in thousands)
Variable
Fixed
$ 10,800
$3,510
3,600
2,880
810
$ 14,400
$7,200
3,600
(1,200)
$ 13,200
$10,800
(3,600)
3,000
$ 16,200
$7,200

Solutions Manual

total fixed expenses
total variable expenses
Contribution-margin ratio =1
sales revenue
Break -even sales dollars =
(a)
$14,400,000
$24,000,000
=1 .60
=.40
Contribution margin ratio =1
$7,200,000
.40
=$18,000,000
Break - even sales dollars =
(b)
2.
$13,200,000
$24,000,000
=1 .55
=.45
$10,800,000
Break - even sales dollars =
.45
=$24,000,000
Contribution margin ratio =1
Required sales dollars =
total fixed costs + target income before income taxes

$16,200
Contribution margin ratio =
1
$24,000
=
1
.675
=
.325
$7,200,000 +
$2,
Required sales dollars to break even =
.325
$9,600,000
=
.325
=
$29,538,462 (roun
McGraw-Hill/Irwin
Inc.

7- 57

3.
The volume in sales dollars (X) that would result in equal net income is the volume
of sales dollars where total expenses are equal.
Total expenses with agents paid
increased commission
= total expenses with own sales force
$16,200,000
$13,200,000
X +$7,200,000 =
X +$10,800,000
$24,000,000
$24,000,000
.675 X +$7,200,000 =.55 X +$10,800,000
.125 X =$3,600,000
X =$28,800,000
Therefore, at a sales volume of $28,800,000, the company will earn equal before-tax
income under either alternative. Since before-tax income is the same, so is after-tax
net income.
A different approach to the solution seeks to equate total profit (instead of total
expenses). This approach uses the contribution-margin ratio, as follows:
$24, 000000 - $16, 200, 000
$24, 000, 000 - $13, 200, 000

X - $7, 200, 000 =
$24, 000, 000
X - $10, 800, 000

$24, 000, 000
..325X - $7, 200, 000 = ..45X - $10, 800, 000

.125X = $3, 600, 000
X = $28, 800, 000
McGraw-Hill/Irwin
Inc.
7-58

Solutions Manual

1.
a. In order to break even, Columbus Canopy Company must sell 500 units. This
amount represents the point where revenue equals total costs.
Revenue = variable costs + fixed costs
$800X = $400X + $200,000
$400X = $200,000
X = 500 units
b. In order to achieve its after-tax profit objective, Columbus Canopy Company

must sell 2,500 units. This amount represents the point where revenue equals
total costs plus the before-tax profit objective.
Revenue = variable costs + fixed costs +before - tax profit
$800X = $400X + $200,000 +[$480,000 (1 .4 ) ]
$800X = $400X + $200,000 + $800,000
$400X = $1,000,000
X = 2,500 units
2.
To achieve its annual after-tax profit objective, management should select the first
alternative, where the sales price is reduced by $80 and 2,700 units are sold during
the remainder of the year. This alternative results in the highest profit and is the
only alternative that equals or exceeds the companys profit objective. Calculations
for the three alternatives follow.
McGraw-Hill/Irwin
Inc.

7- 59

Alternative (1):
Re venue = ($800)(350) +($720)( 2,700)
= $2,224,000
Variable cost = $400 3,050
= $1,220,000
Before - tax profit = $2,224,000 $1,220,000 $200,000
= $804,000
After - tax profit = $804,000 (1 .4 )
= $ 482,400
Alternative (2):
Re venue = ($800)(350) +($740)( 2,200)
= $1,908,000
Variable cost = ( $400)(350) ($350)( 2,200)
= $910,000
Before - tax profit = $1,908,000 $910,000 $200,000
= $798,000
After - tax profit = $798,000 (1 .4 )
= $ 478,800
Alternative (3):
Re venue = ($800)( 350) +($760)( 2,000)
= $1,800,000
Variable cost = $400 2,350
= $940,000
Before - tax profit = $1,800,000 $940,000 $180,000
= $680,000
After - tax profit = $680,000 (1 .4 )
= $ 408,000
McGraw-Hill/Irwin
Inc.
7-60

Solutions Manual
SOLUTIONS TO CASES
CASE 7-54 (50 MINUTES)
1.
The break-even point is 16,900 patient-days calculated as follows:

SUSQUEHANNA MEDICAL CENTER
COMPUTATION OF BREAK-EVEN POINT
IN PATIENT-DAYS: PEDIATRICS
FOR THE YEAR ENDED JUNE 30, 20X6
Total fixed costs:

Medical center charges.........................................................................................
Supervising nurses ($30,000 4).......................................................................
Nurses
($24,000 10).....................................................................
Aids
($10,800 20).....................................................................
Total fixed costs
.............................................................................................
$3,480,000
120,000
240,000
216,000
$4,056,000
Contribution margin per patient-day:

Revenue per patient-day.......................................................................................
$360
Variable cost per patient-day:

($7,200,000 $360 = 20,000 patient-days)
($2,400,000 20,000 patient-days)..................................................................
Contribution margin per patient-day....................................................................
120
$240
Break-even point
in patient-days
McGraw-Hill/Irwin
Inc.
total fixed costs

$4,056,000
=
contribution margin per patient - day
$240
=16,900 patient days
=

7- 61
CASE 7-54 (CONTINUED)

2. Net earnings would decrease by $728,000, calculated as follows:
SUSQUEHANNA MEDICAL CENTER
COMPUTATION OF LOSS FROM RENTAL
OF ADDITIONAL 20 BEDS: PEDIATRICS
FOR THE YEAR ENDED JUNE 30, 20X6
Increase in revenue
(20 additional beds 90 days $360 charge per day)....................................
$ 648,000
Increase in expenses:
Variable charges by medical center
(20 additional beds 90 days $120 per day)...........................................
$ 216,000
Fixed charges by medical center

($3,480,000 60 beds = $58,000 per bed)
($58,000 20 beds).......................................................................................
1,160,000
Salaries
(20,000 patient-days before additional 20 beds + 20 additional
beds 90 days = 21,800, which does not exceed 22,000 patient-days;
therefore, no additional personnel are required).........................................
Total increase in expenses.....................................................................................
Net change in earnings from rental of additional 20 beds...................................
-0$1,376,000
$ (728,000)
McGraw-Hill/Irwin
Inc.
7-62

Solutions Manual
CASE 7-55 (50 MINUTES)

1.
Break-even point for 20x4, based on current budget:

$15,000,000 $9,000,000 $3,000,000
=.20
$15,000,000
fixed expenses
$150,000
=
=$750,000
.20
2.
Break-even point given employment of sales personnel:

New fixed expenses:
Previous fixed expenses........................................................................
Sales personnel salaries (3 x $45,000)..................................................
Sales managers salaries (2 $120,000)...............................................
Total.........................................................................................................
$
$
150,000
135,000
240,000
525,000
New contribution-margin ratio:

Sales........................................................................................................
Cost of goods sold.................................................................................
Gross margin..........................................................................................
Commissions (at 5%)..............................................................................
$15,000,000
9,000,000
$ 6,000,000
750,000
$ 5,250,000
$5,250,000
= .35
$15,000,000
fixed expenses
$525,000
=
= $1,500,000
.35
Estimated break - even point =
McGraw-Hill/Irwin
Inc.

7- 63

3.
Assuming a 25% sales commission:

New contribution-margin ratio:
Sales........................................................................................................
Cost of goods sold.................................................................................
Gross margin..........................................................................................
Commissions (at 25%)............................................................................
Sales volume in dollars

required to earn after-tax
net income
$15,000,000
9,000,000
$ 6,000,000
3,750,000
$ 2,250,000
$2,250,000
=.15
$15,000,000

(1 t )
fixed expenses +
=
$1,995,000
$3,000,000
(1 .3)
=
=
.15
.15
= $20,000,000
$150,000 +
Check:
Sales....................................................................
Cost of goods sold (60% of sales).....................
Gross margin......................................................
Selling and administrative expenses:
Commissions................................................
All other expenses (fixed)............................
Income before taxes...........................................
Income tax expense (30%).................................
Net income..........................................................
McGraw-Hill/Irwin
Inc.
7-64
$ 20,000,000
12,000,000
$ 8,000,000
$ 5,000,000
150,000
5,150,000
$ 2,850,000
855,000
$ 1,995,000

Solutions Manual

4.
Sales dollar volume at which Lake Champlain Sporting Goods Company is

indifferent:
Let X denote the desired volume of sales.
Since the tax rate is the same regardless of which approach management chooses,
we can find X so that the companys before-tax income is the same under the two
alternatives. (In the following equations, the contribution-margin ratios of .35 and .
15, respectively, were computed in the preceding two requirements.)
.35X $525,000 = .15X $150,000
.20X = $375,000
X = $375,000/.20
X = $1,875,000
Thus, the company will have the same before-tax income under the two alternatives
if the sales volume is $1,875,000.
Check:
Sales.............................................................................
Cost of goods sold (60% of sales).............................
Gross margin...............................................................
Selling and administrative expenses:
Commissions...........................................................
All other expenses (fixed).......................................
Income before taxes....................................................
Income tax expense (30%)..........................................
Net income...................................................................
Alternatives
Employ
Sales
Pay 25%
Personnel
Commission
$1,875,000
$1,875,000
1,125,000
1,125,000
$ 750,000
$ 750,000
93,750*
525,000
$ 131,250
39,375
$ 91,875
468,750
150,000
$ 131,250
39,375
$ 91,875
*$1,875,000 5% = $93,750
$1,875,000 25% = $468,750
McGraw-Hill/Irwin
Inc.

7- 65

Chap 007

Enviado por

Dados do documento

Direitos autorais

Formatos disponíveis

Compartilhar este documento

Compartilhar ou incorporar documento

Opções de compartilhamento

Você considera este documento útil?

Este conteúdo é inapropriado?

Direitos autorais:

Formatos disponíveis

Chap 007

Enviado por

Direitos autorais:

Formatos disponíveis

CHAPTER 7

a. In the contribution-margin approach, the break-even point in units is calculated

b. In the equation approach, the following profit equation is used:

unit sales volume

sales price in units

This equation is solved for the sales volume in units.

2009 The McGraw-Hill Companies,

The president is correct. A price increase results in a higher unit contribution

The most important assumptions of a cost-volume-profit analysis are as follows:

Operating managers frequently prefer the contribution income statement because it

2009 The McGraw-Hill Companies,

Cost-volume-profit analysis shows the effect on profit of changes in expenses, sales

2009 The McGraw-Hill Companies,

Budgeting begins with a sales forecast. Cost-volume-profit analysis can be used to

Activity-based costing (ABC) results in a richer description of an organization's cost

2009 The McGraw-Hill Companies,

Break-even point (in units) = unit contribution margin

unit contribution margin

Break-even point (in sales dollars)

2009 The McGraw-Hill Companies,

EXERCISE 7-24 (25 MINUTES)

Explanatory notes for selected items:

$31,250 = $25,000/.80, where .80 is the contribution-margin ratio.

Break-even sales revenue...............................................................................

Therefore, variable expenses are 25 percent of sales revenue.

2009 The McGraw-Hill Companies,

EXERCISE 7-25 (25 MINUTES)

Dollars per year

2009 The McGraw-Hill Companies,

EXERCISE 7-25 (CONTINUED)

Break - even point (tickets) 20,000

The team must play 5 games to break even.

2009 The McGraw-Hill Companies,

EXERCISE 7-26 (25 MINUTES)

Dollars per year

2009 The McGraw-Hill Companies,

2009 The McGraw-Hill Companies,

EXERCISE 7-26 (CONTINUED)

2009 The McGraw-Hill Companies,

EXERCISE 7-27 (25 MINUTES)

Break-even point (in units)

= unit contribution margin

= 1,500p 1,000p = 4,000 components

New break-even point (in units)

Sales revenue (7,000 1,500p)

New break-even point (in units) = 1,400p 1,000 p

Analysis of price change decision:

2009 The McGraw-Hill Companies,

EXERCISE 7-28 (25 MINUTES)

(a) Traditional income statement:

(b) Contribution income statement:

Operating leverage factor (at $1,000,000 sales level) =

2009 The McGraw-Hill Companies,

EXERCISE 7-28 (CONTINUED)

percentage increase operating

EXERCISE 7-29 (30 MINUTES)

2009 The McGraw-Hill Companies,

EXERCISE 7-30 (30 MINUTES)

= ($400 30%) + ($300 70%)

Break - even point (in units) =

Target net income:

Sales volume required to earn target net income of $99,000 =

225 (750 .30)

EXERCISE 7-31 (25 MINUTES)