Question

Mary Willis is the advertising manager for Flint Shoe Store. She is currently working on a major promotional campaign. Her ideas include the installation of a new lighting system and increased display space that will add $30,400 in fixed costs to the $272,000 currently spent. In addition, Mary is proposing that a 5% price decrease ($40 to $38) will produce a 20% increase in sales volume (20,000 to 24,000). Variable costs will remain at $24 per pair of shoes. Management is impressed with Mary’s ideas but concerned about the effects that these changes will have on the break-even point and the margin of safety.

A: Compute the current break-even point in units, and compare it to the break-even point in units if Mary’s ideas are used. (Round answers to 0 decimal places, e.g. 1,225.)B: Compute the margin of safety ratio for current operations and after Mary’s changes are introduced. (Round answers to 0 decimal places, e.g. 15%.)C: Prepare a CVP income statement for current operations and after Mary’s changes are introduced. Would you make the changes suggested?

Answer 1

Answer:

A. Current = 17,000, After Mary Ideas = 21,600

B. Current = 15% After Mary Ideas = 10%

C.

                                                      Current              After Mary Ideas

Sales                                             800,000                    912,000

Less Variable Costs                    (480,000)                  (576,000)

Contribution                                 320,000                     336,000

Less Fixed Costs                         (272,000)                  (302,400)

Net Income/(Loss)                          48,000                       33,600

Conclusion :

No will not make the changes

Because they result in decrease in net income by $14,400

Explanation:

A: Compute the current break-even point in units

Current

break-even point in units = Fixed Costs / Contribution per unit

                                          = $272,000 / ($40 - $24)

                                          = 17,000 pairs of shoes

Mary ideas

break-even point in units = Fixed Costs / Contribution per unit

                                          = ($272,000 + $30,400) / ($38 - $24)

                                          = 21,600 pairs of shoes

B: Compute the margin of safety ratio

Current

margin of safety ratio = Expected Sales - Break even Sales / (Expected Sales)

                                    = (20,000 - 17,000) / 20,000

                                    = 15%

Mary Ideas

margin of safety ratio = Expected Sales - Break even Sales / (Expected Sales)

                                    = (24,000 - 21,600) / 24,000

                                    = 10%