# Case Study.

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Case Study

The margin of safety can be calculated by:
A) Sales − (Fixed expenses/Contribution margin ratio). B) Sales − (Fixed expenses/Variable expense per unit). C) Sales − (Fixed expenses + Variable expenses). D) Sales − Net operating income. A

Hopi Corporation expects the following operating results for next year:
Sales \$400,000  Margin of safety \$100,000  Contribution margin ratio 75%  Degree of operating leverage 4 What is Hopi expecting total fixed expenses to be next year? A) \$75,000 B) \$100,000 C) \$200,000 D) \$225,000 D

Ans: D Solution: Current sales - Breakeven sales = Margin of safety
Substituting the given information into the above equation, we will have: \$400,000 − Breakeven sales = \$100,000 Breakeven sales = \$300,000 Breakeven sales = Fixed expenses ÷ Contribution margin ratio \$300,000 = Fixed expenses ÷ 0.75 Fixed expenses = \$225,000

Sales (8,400 units) \$764,400 Variable expenses 445,200
Escareno Corporation has provided its contribution format income statement for June. The company produces and sells a single product. Sales (8,400 units) \$764,400 Variable expenses  445,200 Contribution margin 319,200 Fixed expenses  250,900 Net operating income \$ 68,300 If the company sells 8,200 units, its total contribution margin should be closest to: A) \$301,000 B) \$311,600 C) \$319,200 D) \$66,674 B

Ans:  B Solution: Current contribution margin ÷ Current sales in units = Contribution margin per unit \$319,200 ÷ 8,400 = \$38 contribution margin per unit If 8,200 units are sold, the total contribution margin will be 8,200 × \$38, or \$311,600.

The Bronco Birdfeed Company reported the following information:
Sales (400 cases) \$100,000 Variable expenses ,000 Contribution margin 40,000 Fixed expenses ,000 Net operating income \$5,000 How much will the sale of one additional case add to Bronco's net operating income? A) \$250.00 B) \$100.00 C) \$150.00 D) \$12.50 B

Ans:  B Solution: Current contribution margin ÷ Current sales in cases = Contribution margin per case \$40,000 ÷ 400 = \$100 contribution margin per case If one additional case is sold, net operating income will increase by \$100.

The margin of safety in the Flaherty Company is \$24,000
The margin of safety in the Flaherty Company is \$24,000. If the company's sales are \$120,000 and its variable expenses are \$80,000, its fixed expenses must be: A) \$8,000 B) \$32,000 C) \$24,000 D) \$16,000 B

Ans:  B Solution: Current sales - Breakeven sales = Margin of safety Substituting the given information into the above equation, we will have: \$120,000 - Breakeven sales = \$24,000 Breakeven sales = \$96,000 Sales - Variable expenses = Contribution margin \$120,000 - \$80,000 = \$40,000 Contribution margin ratio = Contribution margin ÷ Sales Contribution margin ratio = \$ 40,000 ÷ \$120,000 Contribution margin ratio = Breakeven sales = Fixed costs ÷ Contribution margin ratio \$96,000 = Fixed costs ÷ Fixed costs = \$32,000

A) The company's break-even point is \$12,000 per month.
Dodero Company produces a single product which sells for \$100 per unit. Fixed expenses total \$12,000 per month, and variable expenses are \$60 per unit. The company's sales average 500 units per month. Which of the following statements is correct? A) The company's break-even point is \$12,000 per month. B) The fixed expenses remain constant at \$24 per unit for any activity level within the relevant range. C) The company's contribution margin ratio is 40%. Responses A, B, and C are all correct. C

Ans: C Solution: Answer A is not correct because:
Sales = Variable expenses + Fixed expenses + Profit \$100Q = \$60Q + \$12,000 + \$0 \$40Q = \$12,000 Q = \$12,000 ÷ \$40 per unit = 300 units 300 units × \$100 selling price per unit = \$30,000 breakeven sales in dollars Answer B is not correct because fixed costs change as activity level changes Answer C is correct because: Contribution margin per unit = Selling price per unit - Variable expenses per unit = \$100 - \$60 = \$40 Contribution margin ratio = Contribution margin per unit ÷ Selling price per unit Contribution margin ratio = \$40 ÷ \$100 Contribution margin ratio = 40%

Holt Company's variable expenses are 70% of sales
Holt Company's variable expenses are 70% of sales. At a \$300,000 sales level, the degree of operating leverage is 10. If sales increase by \$60,000, the degree of operating leverage will be: A) 12 B) 10 C) 6 D) 4 D

Ans:  D Solution: Sales \$300,000 Variable expenses (\$300,000 × 70%) 210,000 Contribution margin 90,000 Fixed expenses ? Net operating income \$ ? Current degree of operating leverage = Current contribution margin ÷ Current net operating income 10 = \$90,000 ÷ Current net operating income Current net operating income = \$90,000 ÷ 10 = \$9,000 Contribution margin = Fixed expenses - Net operating income \$90,000 = Fixed expenses - \$9,000 Fixed expenses = \$90,000 - \$9,000 = \$81,000 Sales (\$300,000 + \$60,000) \$360,000 Variable expenses (\$360,000 × 70%) 252,000 Contribution margin 108,000 Fixed expenses 81,000 Net operating income \$ 27,000 Degree of operating leverage = Contribution margin ÷ Net operating income = \$108,000/\$27,000 = 4.0

Gayne Corporation's contribution margin ratio is 12% and its fixed monthly expenses are \$84,000. If the company's sales for a month are \$738,000, what is the best estimate of the company's net operating income? Assume that the fixed monthly expenses do not change. A) \$565,440 B) \$654,000 C) \$88,560 D) \$4,560 D

Ans:  D Solution: Sales \$738,000 Variable expenses (\$738,000 × 88%) 649,440 Contribution margin (\$738,000 × 12%) 88,560 Fixed expenses 84,000 Net operating income \$ 4,560

Wilson Company prepared the following preliminary budget assuming no advertising expenditures:
Selling price \$10 per unit Unit sales ,000 Variable expenses \$600,000 Fixed expenses \$300,000 Based on a market study, the company estimated that it could increase the unit selling price by 15% and increase the unit sales volume by 10% if \$100,000 were spent on advertising. Assuming that these changes are incorporated in its budget, what should be the budgeted net operating income? A) \$175,000 B) \$190,000 C) \$205,000 D) \$365,000 C

Ans: C Solution: Sales (110,000 units × \$11.50) \$1,265,000
Variable expenses (110,000 units × \$6*) 660,00 Contribution margin ,000 Fixed expenses (\$300,000 + \$100,000) ,000 Net operating income \$ 205,000 * Current variable expenses ÷ Current sales in units = Variable expense per unit \$600,000 ÷ 100,000 = \$6 variable expense per unit

Data concerning Kardas Corporation's single product appear below:
Per Unit Percent of Sales Selling price \$ % Variable expenses      20% Contribution margin \$  80% The company is currently selling 8,000 units per month. Fixed expenses are \$719,000 per month. The marketing manager believes that a \$20,000 increase in the monthly advertising budget would result in a 180 unit increase in monthly sales. What should be the overall effect on the company's monthly net operating income of this change? A) decrease of \$160 B) increase of \$20,160 C) decrease of \$20,000 D) increase of \$160 D

Ans:  D Solution: 8,000 units 8,180 units Sales (8,000 units, 8,180 units × \$140) \$1,120,000 \$1,145,200 Variable expenses : (\$1,120,000, \$1,145,200 × 20%) 224, ,040 Contribution margin = 896, ,160 Fixed expenses = 719, ,000 Net operating income = \$ 177,000 \$ 177,160 Increase in net operating income: \$177,160 - \$177,000 = \$160