Lecture 24

Practice Questions

Lecture Overview• Contribution Margin Method• MCQs Test• CVP Relationships in Graphic Form• CVP Graph• Target Profit Analysis• The CVP Equation• The Contribution Margin Approach• The Margin of Safety

Company Oliver located in Karachi manufactures computer casing. The firm`s fixed costs are Rs. 4000000 per month while prices are Rs. 3000 and Variable Cost Rs. 2000 each. Company sold 5000 components during the previous year.

Requirements• Compute the break-even point in units.• What will the new break-even point be if fixed costs increase

by 10 percent?• What was the company`s net income for the prior year?• The sales manager believes that a reduction in the sales price

to Rs 2500 will result in orders for 1200 more components each year. What will be break-even point be if price is changed?

• Should the price change discuss in requirement (4) be made?

The Concept of Sales Mix• Sales mix is the relative proportions in which a

company’s products are sold.• Different products have different selling prices,

cost structures, and contribution margins.

Let’s assume Wind sells bikes and carts and see how we deal with break-even analysis.

Multi-product break-even analysisWind Bicycle Co. provides the following information:

Bikes Carts TotalSales 250,000$ 100% 300,000$ 100% 550,000$ 100.0%Var. exp. 150,000 60% 135,000 45% 285,000 51.8%Contrib. margin 100,000$ 40% 165,000$ 55% 265,000 48.2%

Fixed exp. 170,000 Net income 95,000$

Sales mix 250,000$ 45% 300,000$ 55% 550,000$ 100.0%

$265,000 $550,00

= 48.2% (rounded)

Multi-product break-even analysisBreakeven sales =

FCM Ratio

=$170,000

0.482= $352,697

Bikes Carts TotalSales 158,714$ 100% 193,983$ 100% 352,697$ 100.0%Var. exp. 95,228 60% 87,293 45% 182,521 51.8%Contrib. margin 63,485$ 40% 106,691$ 55% 170,176 48.2%

Fixed exp. 170,000 Net income 176$

Sales mix 158,714$ 45% 193,983$ 55% 352,697$ 100.0%

Rounding error

Assumptions of CVP Analysis

Selling price is constant throughout the entire relevant range.

Costs are linear throughout the entire relevant range.

In multi-product companies, the sales mix is constant.

In manufacturing companies, inventories do not change (units produced = units sold).

Tim`s Bicycle shop sells speed race bicycles. For purposes of a cost volume profit analysis, the shop owner has divided sales

into two categories as follows:

Product Type Sales Price Invoice Cost Sales CommissionsHigh Quality $500 $275 $25 Medium Quality 300 135 15

Three quarters of the shop`s sales are medium-quality bikes. The shop`s annual fixed expenses are $65000. (in the following requirements, ignore income tax)Requireda) Compute the unit contribution margin for each product type.b) What is the shop`s sales mix?c) Compute the weighted-average unit contribution margin, assuming a constant

sales mixd) What is the shop`s break-even sales volume in dollars? Assume a constant

sales mix.e) How many bicycles of each type must be sold to earn a target net income of

$48,750? Assume a constant sales mix.

Tim`s Bicycle shop sells speed race bicycles. For purposes of a cost volume profit analysis, the shop owner has divided sales into three categories as follows:

Product Type Sales Price Invoice Cost Sales CommissionsHigh Quality $500 $275 $25 Medium Quality 300 135 15Low Quality 150 75 25

Two quarters of the shop`s sales are low-quality bikes and one quarter each to the high quality and medium quality. The shop`s annual fixed expenses are $67500. (In the following requirements, ignore income tax)

RequiredCompute the unit contribution margin for each product type.What is the shop`s sales mix?Compute the weighted-average unit contribution margin, assuming a constant sales mixWhat is the shop`s break-even sales volume in dollars? Assume a constant sales mix.How many bicycles of each type must be sold to earn a target net income of $50625? Assume a constant sales mix.

Lecture Overview

• The Concept of Sales Mix• Multi-product break-even

analysis• Assumptions of CVP Analysis

End of Lecture 24