1. Operating Leverage.

High operating leverage means:

1.           The company has relatively low fixed costs.

2.           The company has relatively high fixed costs.
3.           The company will have to sell more units than a comparable company with low operating leverage to
4.           The company will have to sell fewer units than a comparable company with low operating leverage to
     Both (2) and (3) are correct.

2
th low operating leverage to break even.
th low operating leverage to break even.
2) 1.        Calculate the weighted average contribution margin per unit.
cell GPS
Description UNITS PER UNIT AMOUNT UNITS
Sales 21000 $100 $2,100,000 9000
Variable Cost 40 840000

Contribtion/unit $60
Sales mix 70%

Contribtion/batch $42

2.        How many units in total must be sold to break even?

cell GPS
Description UNITS PER UNIT Amount UNITS
Sales 21000 $100 $2,100,000 9000
Variable Cost 40 840000

Contribtion/unit $60
Sales mix 70%

Contribtion/batch $42

TOTAL CONTRIBUTION
Break even sales (UNITS) =Total fixed cost /Cont per batch

BREAK EVEN UNITS OF EACH

$14,000 $6,000
PRODUCT
SALES MIX*BATCHES(B/E) SALES MIX*BATCHES(B/E)

3.        How many units of each product must be sold to break even?

cell GPS
Description UNITS PER UNIT Amount UNITS
Sales 21000 $100 $2,100,000 9000
Variable Cost 40 840000

Contribtion/unit $60
Sales mix 70%

Contribtion/batch $42
 TOTAL CONTRIBUTION
Break even sales (UNITS) =Total fixed cost /Cont per batch

BREAK EVEN UNITS OF EACH

$14,000 $6,000
PRODUCT
SALES MIX*BATCHES(B/E) SALES MIX*BATCHES(B/E)

4. How many units in total must be sold to earn a monthly profit of $180,000?
cell GPS
Description UNITS PER UNIT Amount UNITS
Sales 21000 $100 $2,100,000 9000
Variable Cost 40 840000

Contribtion/unit $60
Sales mix 70%

Contribtion/batch $42

TOTAL CONTRIBUTION
Breaek even sales (Units in total) Total fixed cost +180000/Cont per batch

5.        How many units of each product must be sold to earn a monthly profit of $180,000?

cell GPS
Description UNITS PER UNIT Amount UNITS
Sales 21000 $100 $2,100,000 9000
Variable Cost 40 840000

Contribtion/unit $60
Sales mix 70%

Contribtion/batch $42

TOTAL CONTRIBUTION
Break even sales (UNITS) =Total fixed cost +180000/Cont per batch

BREAK EVEN UNITS OF EACH

$15,400 $6,600
PRODUCT
SALES MIX*BATCHES(B/E) SALES MIX*BATCHES(B/E)

6.        Using the information provided, prepare a contribution margin income statement for the month simila
 cell GPS
Description UNITS PER UNIT Amount UNITS
Less Sales 21000 $100 $2,100,000 9000
Variable Cost 40 840000

Contribtion/unit $60
Sales mix 70%

Contribtion/batch $42

TOTAL CONTRIBUTION
less Fixed cost
profit

7.        Calculate the weighted average contribution margin ratio.

cell GPS
Description UNITS PER UNIT Amount UNITS
Sales 21000 $100 $2,100,000 9000
Variable Cost 40 840000

Contribtion/unit $60
Sales mix 70%

Contribtion/batch $42

TOTAL CONTRIBUTION
Fixed cost
Contribution to sales ratio =Total Contribution/Total Sales*100

8.        Find the break-even point in sales dollars.

cell GPS
Description UNITS PER UNIT Amount UNITS
Sales 21000 $100 $2,100,000 9000
Variable Cost 40 840000

Contribtion/unit $60
Sales mix 70%

Contribtion/batch $42

TOTAL CONTRIBUTION
Contribution to sales ratio =Total Contribution/Total Sales*100
 Breaek even sales (Dollars) Total fixed cost/c/s ratio
lesss Variable Cost 40 840000
TOTAL CONTRIBUTION
Fixed cost
profit

9.        What amount of sales dollars is required to earn a monthly profit of $540,000?
cell GPS
Description UNITS PER UNIT Amount UNITS
Sales 21000 $100 $2,100,000 9000
Variable Cost 40 840000

Contribtion/unit $60
Sales mix 70%

Contribtion/batch $42

TOTAL CONTRIBUTION
Contribution to sales ratio =Total Contribution/Total Sales*100

Breaek even sales (Dollars) Total fixed cost +540000/c/s ratio

Variable Cost 40 840000
TOTAL CONTRIBUTION
Fixed cost
profit

10.Assume the contribution margin income statement prepared in requirement a is the company’s base
Margin of safety DOLLARS
BUDGETED SALES $ 5,700,000.00
Break even sales $ 3,800,000.00
Margin of safety $ 1,900,000.00
 GPS
PER UNIT AMOUNT TOTAL
$400 $3,600,000 $5,700,000
240 2160000 $3,000,000

$160
30%

$48 $90

GPS
PER UNIT Amount Total
$400 $3,600,000 $5,700,000
240 2160000 3000000

$160
30%

$48 $90 $90

$1,440,000 $2,700,000
nt per batch $20,000

$6,000 $20,000

SALES MIX*BATCHES(B/E)

GPS
PER UNIT Amount Total
$400 $3,600,000 $5,700,000
240 2160000 3000000

$160
30%

$48 $90 $90

 $1,440,000 $2,700,000
nt per batch $20,000

$6,000 $20,000

SALES MIX*BATCHES(B/E)

GPS
PER UNIT Amount Total
$400 $3,600,000 $5,700,000
240 2160000 3000000

$160
30%

$48 $90

$1,440,000 $2,700,000
per batch $22,000 22000

profit of $180,000?

GPS
PER UNIT Amount Total
$400 $3,600,000 $5,700,000
240 2160000 3000000

$160
30%

$48 $90 $90

$1,440,000 $2,700,000
/Cont per batch $22,000

$6,600 $22,000

SALES MIX*BATCHES(B/E)

me statement for the month similar to the one in Figure 3.4 “Income Statement for Amy’s Accounting Service”.
 GPS
PER UNIT Amount Total
$400 $3,600,000 $5,700,000
240 2160000 3000000

$160
30%

$48 $90

$1,440,000 $2,700,000
1800000
$900,000

GPS
PER UNIT Amount Total
$400 $3,600,000 $5,700,000
240 2160000 3000000

$160
30%

$48 $90

$1,440,000 $2,700,000
1800000
otal Sales*100 47.3684211

GPS
PER UNIT Amount Total
$400 $3,600,000 $5,700,000
240 2160000 3000000

$160
30%

$48 $90

$1,440,000 $2,700,000
otal Sales*100 47.3684211
tio 3800000
240 2160000 2000000
1800000
1800000
0

of $540,000?
GPS
PER UNIT Amount Total
$400 $3,600,000 $5,700,000
240 2160000 3000000

$160
30%

$48 $90

$1,440,000 $2,700,000
otal Sales*100 47.3684211

/s ratio 4940000
240 2160000 2600000
2340000
1800000
540000

uirement a is the company’s base case. What is the margin of safety in sales dollars?
 30,000

$1,800,000
 3 CVP Sensitivity analysis
Units per unit 1.CASE 2. CASE
sales $ 30,000.00 $ 50.00 $ 1,500,000.00 $ 1,650,000.00
less
Variable cost of sales $ 40.00 $ 1,200,000.00 $ 1,200,000.00
Contribution margin $ 300,000.00 $ 450,000.00
less
Fixed cost $ 200,000.00 $ 200,000.00
Profit $ 100,000.00 $ 250,000.00
3.CASE 4.CASE
$ 1,500,000.00 $ 1,500,000.00

$ 960,000.00 $ 1,200,000.00
$ 540,000.00 $ 300,000.00

$ 200,000.00 $ 160,000.00
$ 340,000.00 $ 140,000.00
4 Absorption and Marginal costing

1 All 200,000 units produced and sold in year 1

1.Traditional income statement assuming the company uses absorption costing:
2.Contribution margin income statement assuming the company uses variable costing:
Year1
Sold Units 2,00,000
1.Absorption Method

Sales $6,000,000
less:Cost of goods sold $4,000,000
Gross Margin $2,000,000
Less:Selling and Administration $1,200,000
Operating Profit $800,000

The operating profit under both the absorption costing and variable costing is same, because th
units produced and sold are same. So, there are no beginning or ending inventories and hence de
overhead.
Calculations
1. Cost of goods sold under absorption costing –

Product cost –per unit per unit

Direct materials $8
Direct labor $3
Variable OH $4
Fixed production over heads $5
($1,000,000/200,000 units produced)

Total unit product cost $20

2. Ending inventory = 200,000 – 200,000 = 0
.Absorption costing - COGS = $20/unit x 200,000 units sold = $4,000,000
3. selling and administration costs = fixed + variable
Total Fixed Cost $ 800,000.00
Variable = $2 x 200,000 units sold $ 400,000.00
TOTAL SELLING AND ADMIN EXPENSES $1,200,000

TOTAL 1200,000 VARIABLE COSTING WORKING

 Variable Product cost –per unit per unit
Direct materials $8
Direct labor $3
Variable OH $4
Variable product cost 15

Total variable product cost

200000*$15/unit $ 3,000,000.00
variable selling and admin
$2/unit*2000000 unit sold $ 400,000.00

2) 2. Produced 200,000, sold 170,000 units

1.Traditional income statement assuming the company uses absorption costing:
2.Contribution margin income statement assuming the company uses variable costing:
Year 2
Sold Units 170,000
1.)Absorption Method

Sales $5,100,000
Cost of goods sold $3,400,000
Gross Profit $1,700,000
Selling and Administration $1,140,000

Operating Profit $560,000

Computations:

4. Cost of goods sold under absorption costing –

Product cost – per unit
$8
Direct materials
Direct labor $3
Variable OH $4
Fixed overheads $5
($1,000,000/200,000 units produced)

Total unit product cost $20

 2. Ending inventory = 200,000 – 200,000 = 0
.Absorption costing - COGS = $20/unit x 170,000 units sold = $3,400,000
3. selling and administration costs = fixed + variable
Total Fixed Cost $ 800,000.00
Variable = $2 x 170,000 units sold $ 340,000.00

TOTAL SELLING AND ADMIN EXPENSES $ 1,140,000.00

TOTAL 1200,000 VARIABLE COSTING WORKING

Variable Product cost –per unit per unit
Direct materials $8
Direct labor $3

Variable OH $4
Variable product cost $ 15.00

Total variable product cost

200000*$15/unit $ 3,000,000.00
variable selling and admin
$2/unit*1700000 unit sold $ 340,000.00

3) Reconciliation of operating profits between absorption costing and variable costing:

Operating profit under absorption cos $ 560,000.00

Operating profit under variable cost $ 410,000.00
Difference $ 150,000.00

Difference is the amount in the ending inventory

Produced 2,00,000
Sold 1,70,000
cost deferral (released) inventory $ 30,000.00
Fixed overhead per unit $ 5.00
cost deferral (released) inventory
$150,000
 costing

2.Variable Method(Marginal costing)

Sales $6,000,000
less :Variable Costs of sale
Variable Production cost $3,000,000
Variable Selling and Administration $400,000 $3,400,000

Contribution Margin $2,600,000

less :Fixed Costs
Manufacturing overhead $1,000,000
Selling and Administration $800,000 $1,800,000
Operating Profit $800,000

d variable costing is same, because the number of

ng or ending inventories and hence deferral of fixed
.

00
s variable costing:

2)Variable Method(Marginal Costing)

Sales $5,100,000
Variable Cost of sales
Production variable cost $2,550,000
Selling and Administration $340,000 $2,890,000

Contribution Margin $2,210,000

Fixed Costs
Manufacturing overhead $1,000,000

Selling and Administration $800,000 $1,800,000

Operating Profit $410,000

00

variable costing:
 1.        Prepare a traditional income statement assuming the co
2.        Although 200,000 units are produced during year 2, only 170,000
3.        Although 200,000 units are produced during year 3, a total of 230
1.      Prepare a traditional income statement assuming the c
2.      Prepare a contribution margin income statement assum
4.        Analyze the results in years 1 through 3 (requirements a through
 ement assuming the company uses absorption costing.
g year 2, only 170,000 units are sold during the year. The remaining 30,000 units are in finished goods inventory at the end of ye
g year 3, a total of 230,000 units are sold during the year. The 30,000 units remaining in inventory at the end of year 2 are sold d
atement assuming the company uses absorption costing.
ncome statement assuming variable costing is used.
quirements a through c).
ventory at the end of year 2.
nd of year 2 are sold during year 3.