Chapter 5

Cost-Volume-Profit Relationships

Exercise 5-1 (20 minutes)

1. The new income statement would be:

Total Per Unit

Sales (10,100 units) $353,500 $35.00
Variable expenses 202,000 20.00
Contribution margin 151,500 $15.00
Fixed expenses 135,000
Net operating income $ 16,500

You can get the same net operating income using the following
approach:

Original net operating $15,00

income 0
Change in contribution
margin
(100 units × $15.00 per
unit) 1,500
$16,50
New net operating income 0

2. The new income statement would be:

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Solutions Manual, Chapter 5 1

 Total Per Unit
$346,50
Sales (9,900 units) 0 $35.00
Variable expenses 198,000 20.00
Contribution margin 148,500 $15.00
Fixed expenses 135,000
Net operating income $ 13,500

You can get the same net operating income using the following
approach:

Original net operating income $15,000

Change in contribution margin
(-100 units × $15.00 per unit) (1,500)
New net operating income $13,500

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2 Managerial Accounting, 15th Edition

Exercise 5-1 (continued)

3. The new income statement would be:

Total Per Unit

Sales (9,000 units) $315,000 $35.00
Variable expenses 180,000 20.00
Contribution margin 135,000 $15.00
Fixed expenses 135,000
Net operating
income $ 0

Note: This is the company’s break-even point.

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Solutions Manual, Chapter 5 3

Exercise 5-2 (30 minutes)

1. The CVP graph can be plotted using the three steps outlined in
the text. The graph appears on the next page.

Step 1. Draw a line parallel to the volume axis to represent the

total fixed expense. For this company, the total fixed expense
is $24,000.

Step 2. Choose some volume of sales and plot the point

representing total expenses (fixed and variable) at the activity
level you have selected. We’ll use the sales level of 8,000 units.

Fixed expenses $ 24,000

Variable expenses (8,000 units × $18 per
unit) 144,000
$168,00
Total expense 0

Step 3. Choose some volume of sales and plot the point

representing total sales dollars at the activity level you have
selected. We’ll use the sales level of 8,000 units again.

Total sales revenue (8,000 units × $24 per $192,00

unit) 0

2. The break-even point is the point where the total sales revenue
and the total expense lines intersect. This occurs at sales of
4,000 units. This can be verified as follows:

Profit = Unit CM × Q − Fixed expenses

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4 Managerial Accounting, 15th Edition

 = ($24 − $18) × 4,000 − $24,000
= $6 × 4,000 − $24,000
= $24,000− $24,000
= $0

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Solutions Manual, Chapter 5 5

Exercise 5-2 (continued)

CVP Graph

$200,000

$150,000

$100,000
Dollars

$50,000

$0
0 2,000 4,000 6,000 8,000

Volume in Units

Fixed Expense Total Expense

Total Sales Revenue

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6 Managerial Accounting, 15th Edition

Exercise 5-3 (15 minutes)

1. The profit graph is based on the following simple equation:

Profit = Unit CM × Q − Fixed expenses

Profit = ($16 − $11) × Q − $16,000
Profit = $5 × Q − $16,000

To plot the graph, select two different levels of sales such as

Q=0 and Q=4,000. The profit at these two levels of sales are -
$16,000 (=$5 × 0 − $16,000) and $4,000 (= $5 × 4,000 −
$16,000).

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Solutions Manual, Chapter 5 7

 Profit Graph

$5,000

$0

-$5,000
Profit

-$10,000

-$15,000

-$20,000
0 500 1,000 1,500 2,000 2,500 3,000 3,500 4,000

Sales Volume in Units

Exercise 5-3 (continued)

2. Looking at the graph, the break-even point appears to be 3,200

units. This can be verified as follows:

Profit = Unit CM × Q − Fixed expenses

= $5 × Q − $16,000
= $5 × 3,200 − $16,000
= $16,000 − $16,000
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8 Managerial Accounting, 15th Edition

 = $0

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Solutions Manual, Chapter 5 9

Exercise 5-4 (10 minutes)

1. The company’s contribution margin (CM) ratio is:

Total sales $200,000

Total variable expenses 120,000
= Total contribution
margin 80,000
÷ Total sales $200,000
= CM ratio 40%

2. The change in net operating income from an increase in total

sales of $1,000 can be estimated by using the CM ratio as
follows:

Change in total sales $1,000

× CM ratio 40 %
= Estimated change in net operating
income $ 400

This computation can be verified as follows:

$200,00
Total sales 0
÷ Total units sold 50,000 units
= Selling price per per
unit $4.00 unit

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10 Managerial Accounting, 15th Edition

 Increase in total sales $1,000
÷ Selling price per per
unit $4.00 unit
= Increase in unit
sales 250 units
Original total unit
sales 50,000 units
New total unit sales 50,250 units

Original New
Total unit sales 50,000 50,250
$200,00 $201,00
Sales 0 0
Variable expenses 120,000 120,600
Contribution margin 80,000 80,400
Fixed expenses 65,000 65,000
Net operating income $ 15,000 $ 15,400

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Solutions Manual, Chapter 5 11

Exercise 5-5 (20 minutes)

1. The following table shows the effect of the proposed change in

monthly advertising budget:
Sales
With
Additional
Advertisin
Current g
Differenc
Sales Budget e
$180,00
Sales 0 $189,000 $ 9,000
126,00
Variable expenses 0 132,300 6,300
Contribution margin 54,000 56,700 2,700
Fixed expenses 30,000 35,000 5,000
$ 24,00
Net operating income 0 $ 21,700 $ (2,300)

Assuming no other important factors need to be considered,

the increase in the advertising budget should not be approved
because it would lead to a decrease in net operating income of
$2,300.

Alternative Solution 1

Expected total contribution margin:

$189,000 × 30% CM ratio $56,700
Present total contribution margin: 54,000

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12 Managerial Accounting, 15th Edition

 $180,000 × 30% CM ratio
Incremental contribution margin 2,700
Change in fixed expenses:
Less incremental advertising
expense 5,000
Change in net operating income $ (2,300)

Alternative Solution 2

Incremental contribution margin:

$9,000 × 30% CM ratio $2,700
Less incremental advertising
expense 5,000
Change in net operating income $ (2,300)

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Solutions Manual, Chapter 5 13

Exercise 5-5 (continued)

2. The $2 increase in variable expense will cause the unit

contribution margin to decrease from $27 to $25 with the
following impact on net operating income:

Expected total contribution margin

with the higher-quality components:
2,200 units × $25 per unit $55,000
Present total contribution margin:
2,000 units × $27 per unit 54,000
Change in total contribution margin $ 1,000

Assuming no change in fixed expenses and all other factors

remain the same, the higher-quality components should be
used.

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14 Managerial Accounting, 15th Edition

Exercise 5-6 (20 minutes)

1. The equation method yields the break-even point in unit sales,

Q, as follows:

Profit = Unit CM × Q − Fixed expenses

$0 = ($15 − $12) × Q − $4,200
$0 = ($3) × Q − $4,200
$3Q = $4,200
Q = $4,200 ÷ $3
Q = 1,400 baskets

2. The equation method can be used to compute the break-even

point in dollar sales as follows:

Profit = CM ratio × Sales − Fixed expenses

$0 = 0.20 × Sales − $4,200
0.20 × Sales = $4,200
Sales = $4,200 ÷ 0.20
Sales = $21,000

3. The formula method gives an answer that is identical to the

equation method for the break-even point in unit sales:
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Solutions Manual, Chapter 5 15

© The McGraw-Hill Companies, Inc., 2015. All rights reserved.

16 Managerial Accounting, 15th Edition

Exercise 5-6 (continued)

4. The formula method also gives an answer that is identical to

the equation method for the break-even point in dollar sales:

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Solutions Manual, Chapter 5 17

Exercise 5-7 (10 minutes)

1. The equation method yields the required unit sales, Q, as

follows:

Profit = Unit CM × Q − Fixed expenses

$10,000 = ($120 − $80) × Q − $50,000
$10,000 = ($40) × Q − $50,000
$40 × Q = $10,000 + $50,000
Q = $60,000 ÷ $40
Q = 1,500 units

2. The formula approach yields the required unit sales as follows:

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18 Managerial Accounting, 15th Edition

Exercise 5-8 (10 minutes)

1. To compute the margin of safety, we must first compute the

break-even unit sales.

Profi
t = Unit CM × Q − Fixed expenses
$0 = ($30 − $20) × Q − $7,500
$0 = ($10) × Q − $7,500
$10
Q = $7,500
Q = $7,500 ÷ $10
Q = 750 units

Sales (at the budgeted volume of 1,000 $30,00

units) 0
Less break-even sales (at 750 units) 22,500
Margin of safety (in dollars) $ 7,500

2. The margin of safety as a percentage of sales is as follows:

Margin of safety (in dollars) (a) $7,500

$30,00
Sales (b) 0
Margin of safety percentage (a) ÷
(b) 25%

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Solutions Manual, Chapter 5 19

Exercise 5-9 (20 minutes)

1. The company’s degree of operating leverage would be

computed as follows:

Contribution margin (a) $48,000

Net operating income (b) $10,000
Degree of operating leverage (a) ÷
(b) 4.8

2. A 5% increase in sales should result in a 24% increase in net

operating income, computed as follows:

Degree of operating leverage (a) 4.8

Percent increase in sales (b) 5%
Estimated percent increase in net operating income
(a) × (b) 24%

3. The new income statement reflecting the change in sales is:

Percent
Amount of Sales
Sales $84,000 100%
Variable expenses 33,600 40%
Contribution margin 50,400 60%
Fixed expenses 38,000
Net operating
income $12,400

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20 Managerial Accounting, 15th Edition

 Net operating income reflecting change in $12,40
sales 0
Original net operating income (a) 10,000
$ 2,40
Change in net operating income (b) 0
Percent change in net operating income (b) ÷
(a) 24%

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Solutions Manual, Chapter 5 21

Exercise 5-10 (20 minutes)

1. The overall contribution margin ratio can be computed as

follows:

2. The overall break-even point in dollar sales can be computed

as follows:

Overall break-even

= $80,000

3. To construct the required income statement, we must first

determine the relative sales mix for the two products:

Claimjump
er Makeover Total
$100,00
Original dollar sales $30,000 $70,000 0
Percent of total 30% 70% 100%
Sales at break-even $24,000 $56,000 $80,000

Claimjump
er Makeover Total
Sales $24,000 $56,000 $80,000

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22 Managerial Accounting, 15th Edition

 Variable expenses* 16,000 40,000 56,000
Contribution margin $ 8,000 $16,000 24,000
Fixed expenses 24,000
Net operating income $ 0

*Claimjumper variable expenses: ($24,000/$30,000) × $20,000 =

$16,000
Makeover variable expenses: ($56,000/$70,000) × $50,000 =
$40,000

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Solutions Manual, Chapter 5 23

Exercise 5-11 (20 minutes)

a. Case #1 Case #2
Number of units sold 15,000 * 4,000
$180,00
Sales 0 * $12 $100,000 * $25
Variable expenses 120,000 * 8 60,000 15
Contribution margin 60,000 $4 40,000 $10 *
Fixed expenses 50,000 * 32,000 *
$
Net operating income 10,000 $ 8,000 *

Case #3 Case #4
Number of units sold 10,000 * 6,000 *
$200,00
Sales 0 $20 $300,000 * $50
Variable expenses 70,000 * 7 210,000 35
Contribution margin 130,000 $13 * 90,000 $15
Fixed expenses 118,000 100,000 *
Net operating income $ (10,000
(loss).. $ 12,000 * )*

b. Case #1 Case #2
Sales $500,000 * 100% $400,000 * 100%
Variable expenses 400,000 80% 260,000 * 65%
Contribution margin 100,000 20% * 140,000 35%

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24 Managerial Accounting, 15th Edition

 Fixed expenses 93,000 100,000 *
Net operating income $ 7,000 * $ 40,000

Case #3 Case #4
Sales $250,000 100% $600,000 * 100%
Variable expenses 100,000 40% 420,000 * 70%
Contribution margin 150,000 60% * 180,000 30%
Fixed expenses 130,000 * 185,000
Net operating income
(loss). $ 20,000 * $ (5,000) *

*Given

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Solutions Manual, Chapter 5 25

Exercise 5-12 (30 minutes)

1.
Flight
Dynamic Sure Shot Total Company
Amount % Amount % Amount %
$150,00 $250,00 $400,00
Sales 0 100 0 100 0 100.0
Variable 30,00
expenses 0 20 160,000 64 190,000 47.5
Contribution $120,00
margin 0 80 $ 90,000 36 210,000 52.5*
Fixed
expenses 183,750
Net operating
income $ 26,250

*$210,000 ÷ $400,000 = 52.5%

2. The break-even point for the company as a whole is:

3. The additional contribution margin from the additional sales is

computed as follows:

$100,000 × 52.5% CM ratio = $52,500

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26 Managerial Accounting, 15th Edition

 Assuming no change in fixed expenses, all of this additional
contribution margin of $52,500 should drop to the bottom line
as increased net operating income.

This answer assumes no change in selling prices, variable

costs per unit, fixed expense, or sales mix.

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Solutions Manual, Chapter 5 27

Exercise 5-13 (20 minutes)

Per
Total Unit
Sales (20,000 units × 1.15 = 23,000
1. units) $345,000 $ 15.00
Variable expenses 207,000 9.00
Contribution margin 138,000 $ 6.00
Fixed expenses 70,000
Net operating income $ 68,000

Sales (20,000 units × 1.25 = 25,000

2. units) $337,500 $13.50
Variable expenses 225,000 9.00
Contribution margin 112,500 $ 4.50
Fixed expenses 70,000
Net operating income $ 42,500

Sales (20,000 units × 0.95 = 19,000

3. units) $313,500 $16.50
Variable expenses 171,000 9.00
Contribution margin 142,500 $ 7.50
Fixed expenses 90,000
Net operating income $ 52,500

Sales (20,000 units × 0.90 = 18,000

4. units) $302,400 $16.80
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28 Managerial Accounting, 15th Edition

 Variable expenses 172,800 9.60
Contribution margin 129,600 $ 7.20
Fixed expenses 70,000
Net operating income $ 59,600

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Solutions Manual, Chapter 5 29

Exercise 5-14 (30 minutes)

1. Variable expenses: $40 × (100% – 30%) = $28

2. a. Selling price $40 100%

Variable expenses 28 70%
Contribution margin $12 30%

Profit = Unit CM × Q − Fixed expenses

$0 = $12 × Q − $180,000
$12Q = $180,000
Q = $180,000 ÷ $12
Q = 15,000 units

In dollar sales: 15,000 units × $40 per unit = $600,000

Alternative solution:

= CM ratio × Sales − Fixed

Profit expenses
$0 = 0.30 × Sales − $180,000
0.30 ×
Sales = $180,000
Sales = $180,000 ÷ 0.30
Sales = $600,000

In unit sales: $600,000 ÷ $40 per unit = 15,000 units

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30 Managerial Accounting, 15th Edition

 b. Profit = Unit CM × Q − Fixed expenses
$60,00
0 = $12 × Q − $180,000
$12Q = $60,000 + $180,000
$12Q = $240,000
Q = $240,000 ÷ $12
Q = 20,000 units

In dollar sales: 20,000 units × $40 per unit = $800,000

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Solutions Manual, Chapter 5 31

Exercise 5-14 (continued)

Alternative solution:

= CM ratio × Sales − Fixed

Profit expenses
$60,000 = 0.30 × Sales − $180,000
0.30 ×
Sales = $240,000
Sales = $240,000 ÷ 0.30
Sales = $800,000

In unit sales: $800,000 ÷ $40 per unit = 20,000 units

c. The company’s new cost/revenue relation will be:

Selling price $40 100%

Variable expenses ($28 – $4) 24 60%
Contribution margin $16 40%

= Unit CM × Q − Fixed
Profit expenses
$0 = ($40 − $24) × Q − $180,000
$16Q = $180,000
Q = $180,000 ÷ $16 per unit
Q = 11,250 units

In dollar sales: 11,250 units × $40 per unit = $450,000

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32 Managerial Accounting, 15th Edition

 Alternative solution:

= CM ratio × Sales − Fixed

Profit expenses
$0 = 0.40 × Sales − $180,000
0.40 ×
Sales = $180,000
Sales = $180,000 ÷ 0.40
Sales = $450,000

In unit sales: $450,000 ÷ $40 per unit = 11,250 units

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Solutions Manual, Chapter 5 33

Exercise 5-14 (continued)

3. a.

In dollar sales: 15,000 units × $40 per unit = $600,000

Alternative solution:

In unit sales: $600,000 ÷ $40 per unit = 15,000 units

b.

In dollar sales: 20,000 units × $40 per unit =$800,000

Alternative solution:

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34 Managerial Accounting, 15th Edition

 In unit sales: $800,000 ÷ $40 per unit = 20,000 units

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Solutions Manual, Chapter 5 35

Exercise 5-14 (continued)

c.

In dollar sales: 11,250 units × $40 per unit = $450,000

Alternative solution:

In unit sales: $450,000 ÷ $40 per unit =11,250 units

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36 Managerial Accounting, 15th Edition

Exercise 5-15 (15 minutes)

1.
Per
Total Unit
Sales (15,000 games) $300,000 $20
Variable expenses 90,000 6
Contribution margin 210,000 $14
Fixed expenses 182,000
Net operating income $ 28,000

The degree of operating leverage is:

2. a. Sales of 18,000 games represent a 20% increase over last

year’s sales. Because the degree of operating leverage is
7.5, net operating income should increase by 7.5 times as
much, or by 150% (7.5 × 20%).

b. The expected total dollar amount of net operating income for

next year would be:

Last year’s net operating income $28,000

Expected increase in net operating
income next year (150% × $28,000) 42,000
Total expected net operating income $70,000

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Solutions Manual, Chapter 5 37

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38 Managerial Accounting, 15th Edition

Exercise 5-16 (30 minutes)

1. The contribution margin per person would be:

Price per ticket $35

Variable expenses:
Dinner $18
Favors and program 2 20
Contribution margin per person $15

The fixed expenses of the dinner-dance total $6,000. The

break-even point would be:

Profit = Unit CM × Q − Fixed expenses

$0 = ($35 − $20) × Q − $6,000
$0 = ($15) × Q − $6,000
$15Q = $6,000
Q = $6,000 ÷ $15
Q = 400 persons; or, at $35 per person, $14,000

Alternative solution:

or, at $35 per person, $14,000.

2. Variable cost per person ($18 + $2) $20

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Solutions Manual, Chapter 5 39

 Fixed cost per person ($6,000 ÷ 300
persons) 20
Ticket price per person to break even $40

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40 Managerial Accounting, 15th Edition

Exercise 5-16 (continued)

3. Cost-volume-profit graph:

$20,000
Total Sales
$18,000
Break-even point: Total
$16,000 400 persons or Expenses
$14,000 total sales
$14,000

$12,000
Total Sales

$10,000

$8,000

$6,000 Total
Fixed
$4,000 Expenses

$2,000

$0
0 100 200 300 400 500 600 700
Number of Persons

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Solutions Manual, Chapter 5 41

Exercise 5-17 (30 minutes)

1. Profit = Unit CM × Q − Fixed expenses

$0 = ($50 − $32) × Q − $108,000
$0 = ($18) × Q − $108,000
$18Q = $108,000
Q = $108,000 ÷ $18
= 6,000 stoves, or at $50 per stove, $300,000 in
Q sales

Alternative solution:

or at $50 per stove, $300,000 in sales.

2. An increase in variable expenses as a percentage of the selling

price would result in a higher break-even point. If variable
expenses increase as a percentage of sales, then the
contribution margin will decrease as a percentage of sales.
With a lower CM ratio, more stoves would have to be sold to
generate enough contribution margin to cover the fixed costs.

3. Present: Proposed:
8,000 Stoves 10,000 Stoves*
Per
Total Per Unit Total Unit

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42 Managerial Accounting, 15th Edition

 $400,00 $450,00 **
Sales 0 $50 0 $45
256,00
Variable expenses 0 32 320,000 32
Contribution margin 144,000 $18 130,000 $13
108,00
Fixed expenses 0 108,000
Net operating $
income 36,000 $ 22,000

*8,000 stoves × 1.25 = 10,000 stoves

**$50 × 0.9 = $45

As shown above, a 25% increase in volume is not enough to

offset a 10% reduction in the selling price; thus, net operating
income decreases.

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Solutions Manual, Chapter 5 43

Exercise 5-17 (continued)

4. Profit = Unit CM × Q − Fixed expenses

$35,000 = ($45 − $32) × Q − $108,000
$35,000 = ($13) × Q − $108,000
$13 × Q = $143,000
Q = $143,000 ÷ $13
Q = 11,000 stoves

Alternative solution:

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44 Managerial Accounting, 15th Edition

Exercise 5-18 (30 minutes)

1. Profit = Unit CM × Q − Fixed expenses

$0 = ($30 − $12) × Q − $216,000
$0 = ($18) × Q − $216,000
$18Q = $216,000
Q = $216,000 ÷ $18
= 12,000 units, or at $30 per unit,
Q $360,000

Alternative solution:

2. The contribution margin is $216,000 because the contribution

margin is equal to the fixed expenses at the break-even point.

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Solutions Manual, Chapter 5 45

 Total Unit
$510,00
Sales (17,000 units × $30 per unit) 0 $30
Variable expenses
(17,000 units × $12 per unit) 204,000 12
Contribution margin 306,000 $18
Fixed expenses 216,000
$
Net operating income 90,000

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46 Managerial Accounting, 15th Edition

Exercise 5-18 (continued)

4. Margin of safety in dollar terms:

Margin of safety in percentage terms:

5. The CM ratio is 60%.

Expected total contribution margin: ($500,000 × $300,00

60%) 0
Present total contribution margin: ($450,000 ×
60%) 270,000
Increased contribution margin $ 30,000

Alternative solution:
$50,000 incremental sales × 60% CM ratio = $30,000

Given that the company’s fixed expenses will not change,

monthly net operating income will also increase by $30,000.

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Solutions Manual, Chapter 5 47

Problem 5-19 (45 minutes)

$1,050,00
1. Sales (15,000 units × $70 per unit) 0
Variable expenses (15,000 units × $40 per
unit) 600,000
Contribution margin 450,000
Fixed expenses 540,000
$ (90,000
Net operating loss )

2
.

18,000 units × $70 per unit = $1,260,000 to break even

3. See the next page.

4. At a selling price of $58 per unit, the contribution margin is $18

per unit. Therefore:

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48 Managerial Accounting, 15th Edition

 This break-even point is different from the break-even point in
part (2) because of the change in selling price. With the change
in selling price, the unit contribution margin drops from $30 to
$18, resulting in an increase in the break-even point.

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Solutions Manual, Chapter 5 49

Problem 5-19 (continued)

3.
Unit
Variabl Net
Unit e Unit Total operating
Selling Expens Contributio Volume Contribution Fixed income
Price e n Margin (Units) Margin Expenses (loss)
$70 $40 $30 15,000 $450,000 $540,000 $ (90,000)
$68 $40 $28 20,000 $560,000 $540,000 $ 20,000
$66 $40 $26 25,000 $650,000 $540,000 $110,000
$64 $40 $24 30,000 $720,000 $540,000 $180,000
$62 $40 $22 35,000 $770,000 $540,000 $230,000
$60 $40 $20 40,000 $800,000 $540,000 $260,000
$58 $40 $18 45,000 $810,000 $540,000 $270,000
$56 $40 $16 50,000 $800,000 $540,000 $260,000

The maximum profit is $270,000. This level of profit can be earned by selling 45,000
units at a price of $58 each.

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50 Managerial Accounting, 15th Edition

Problem 5-20 (75 minutes)

1. a. Selling price $25 100%

Variable expenses 15 60%
Contribution margin $10 40%

Profit = Unit CM × Q − Fixed expenses

$0 = $10 × Q − $210,000
$10Q = $210,000
Q = $210,000 ÷ $10
Q = 21,000 balls

Alternative solution:

b. The degree of operating leverage is:

2. The new CM ratio will be:

Selling price $25 100%

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Solutions Manual, Chapter 5 51

 Variable expenses 18 72%
Contribution margin $7 28%

The new break-even point will be:

Profit = Unit CM × Q − Fixed expenses

$0 = $7 × Q − $210,000
$7Q = $210,000
Q = $210,000 ÷ $7
Q = 30,000 balls

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52 Managerial Accounting, 15th Edition

Problem 5-20 (continued)

Alternative solution:

3. Profit = Unit CM × Q − Fixed expenses

$90,00
0 = $7 × Q − $210,000
$7Q = $90,000 + $210,000
Q = $300,000 ÷ $7
Q = 42,857 balls (rounded)

Alternative solution:

Thus, sales will have to increase by 12,857 balls (42,857 balls,

less 30,000 balls currently being sold) to earn the same
amount of net operating income as last year. The computations
above and in part (2) show the dramatic effect that increases in
variable costs can have on an organization. The effects on
Northwood Company are summarized below:
Expecte
Present d

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Solutions Manual, Chapter 5 53

 Break-even point (in balls) 21,000 30,000
Sales (in balls) needed to earn a $90,000
profit 30,000 42,857

Note that if variable costs do increase next year, then the

company will just break even if it sells the same number of
balls (30,000) as it did last year.

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54 Managerial Accounting, 15th Edition

Problem 5-20 (continued)

4. The contribution margin ratio last year was 40%. If we let P

equal the new selling price, then:

P = $18 + 0.40P
0.60P
= $18
P = $18 ÷ 0.60
P = $30

To verify:
Selling price $30 100%
Variable expenses 18 60%
Contribution margin $12 40%

Therefore, to maintain a 40% CM ratio, a $3 increase in

variable costs would require a $5 increase in the selling price.

5. The new CM ratio would be:

Selling price $25 100%
Variable expenses 9* 36%
Contribution margin $16 64%

*$15 – ($15 × 40%) = $9

The new break-even point would be:

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Solutions Manual, Chapter 5 55

 Profit = Unit CM × Q − Fixed expenses
$0 = $16 × Q − $420,000
$16Q = $420,000
Q = $420,000 ÷ $16
Q = 26,250 balls

Alternative solution:

Although this new break-even is greater than the company’s

present break-even of 21,000 balls [see Part (1) above], it is
less than the break-even point will be if the company does not
automate and variable labor costs rise next year [see Part (2)
above].

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56 Managerial Accounting, 15th Edition

Problem 5-20 (continued)

6. a. Profit = Unit CM × Q − Fixed expenses

$90,00
0 = $16 × Q − $420,000
$16Q = $90,000 + $420,000
Q = $510,000 ÷ $16
Q = 31,875 balls

Alternative solution:

Thus, the company will have to sell 1,875 more balls (31,875
– 30,000 = 1,875) than now being sold to earn a profit of
$90,000 per year. However, this is still less than the 42,857
balls that would have to be sold to earn a $90,000 profit if
the plant is not automated and variable labor costs rise next
year [see Part (3) above].

b. The contribution income statement would be:

Sales (30,000 balls × $25 per ball) $750,000

Variable expenses (30,000 balls × $9 per
ball) 270,000
Contribution margin 480,000
Fixed expenses 420,000

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Solutions Manual, Chapter 5 57

 Net operating income $ 60,000

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58 Managerial Accounting, 15th Edition

Problem 5-20 (continued)

c. This problem illustrates the difficulty faced by some

companies. When variable labor costs increase, it is often
difficult to pass these cost increases along to customers in
the form of higher prices. Thus, companies are forced to
automate resulting in higher operating leverage, often a
higher break-even point, and greater risk for the company.

There is no clear answer as to whether one should have been

in favor of constructing the new plant.

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Solutions Manual, Chapter 5 59

Problem 5-21 (30 minutes)

1. Product
White Fragrant Loonzain Total
Percentage of
total sales 40% 24% 36% 100%
$300,00 100 $180,00 $270,00 100
Sales 0 % 0 100% 0 100% $750,000 %
Variable 108,00 360,00
expenses 216,000 72% 36,000 20% 0 40% 0 48%
Contribution $144,00 $162,00 *
margin $ 84,000 28% 0 80% 0 60% 390,000 52%
449,28
Fixed expenses 0
Net operating
income (loss) $ (59,280)

*$390,000 ÷ $750,000 = 52%

2. Break-even sales would be:

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60 Managerial Accounting, 15th Edition

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Solutions Manual, Chapter 5 61

Problem 5-21 (continued)

3. Memo to the president:

Although the company met its sales budget of $750,000 for the
month, the mix of products changed substantially from that
budgeted. This is the reason the budgeted net operating
income was not met, and the reason the break-even sales were
greater than budgeted. The company’s sales mix was planned
at 20% White, 52% Fragrant, and 28% Loonzain. The actual
sales mix was 40% White, 24% Fragrant, and 36% Loonzain.

As shown by these data, sales shifted away from Fragrant Rice,

which provides our greatest contribution per dollar of sales,
and shifted toward White Rice, which provides our least
contribution per dollar of sales. Although the company met its
budgeted level of sales, these sales provided considerably less
contribution margin than we had planned, with a resulting
decrease in net operating income. Notice from the attached
statements that the company’s overall CM ratio was only 52%,
as compared to a planned CM ratio of 64%. This also explains
why the break-even point was higher than planned. With less
average contribution margin per dollar of sales, a greater level
of sales had to be achieved to provide sufficient contribution
margin to cover fixed costs.

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62 Managerial Accounting, 15th Edition

Problem 5-22 (60 minutes)

1. The CM ratio is 30%.

Per Percent of
Total Unit Sales
$585,00
Sales (19,500 units) 0 $30.00 100%
409,50
Variable expenses 0 21.00 70%
$175,50
Contribution margin 0 $ 9.00 30%

The break-even point is:

Profit = Unit CM × Q − Fixed expenses

$0 = ($30 − $21) × Q − $180,000
$0 = ($9) × Q − $180,000
$9Q = $180,000
Q = $180,000 ÷ $9
Q = 20,000 units

20,000 units × $30 per unit = $600,000 in sales

Alternative solution:

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Solutions Manual, Chapter 5

63
2. Incremental contribution margin:
$80,000 increased sales × 0.30 CM ratio $24,000
Less increased advertising cost 16,000
Increase in monthly net operating income $ 8,000

Since the company is now showing a loss of $4,500 per month,

if the changes are adopted, the loss will turn into a profit of
$3,500 each month ($8,000 less $4,500 = $3,500).

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64 Managerial Accounting, 15th Edition

Problem 5-22 (continued)

3. Sales (39,000 units @ $27.00 per unit*) $1,053,000

Variable expenses
(39,000 units @ $21.00 per unit) 819,000
Contribution margin 234,000
Fixed expenses ($180,000 + $60,000) 240,000
$ (6,000
Net operating loss )

*$30.00 – ($30.00 × 0.10) = $27.00

4. Profit = Unit CM × Q − Fixed expenses

$9,750 = ($30.00 − $21.75) × Q − $180,000
$9,750 = ($8.25) × Q − $180,000
$8.25Q = $189,750
Q = $189,750 ÷ $8.25
Q = 23,000 units

*$21.00 + $0.75 = $21.75

Alternative solution:

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Solutions Manual, Chapter 5

65
 **$30.00 – $21.75 = $8.25

5. a. The new CM ratio would be:

Percent of
Per Unit Sales
Sales $30.00 100%
Variable expenses 18.00 60%
Contribution margin $12.00 40%

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66 Managerial Accounting, 15th Edition

Problem 5-22 (continued)

The new break-even point would be:

b. Comparative income statements follow:

Not Automated Automated

Per Per
Total Unit % Total Unit %
Sales (26,000 $780,00 $30.0 $780,00 $30.0
units) 0 0 100 0 0 100
Variable 546,00
expenses 0 21.00 70 468,000 18.00 60
Contribution $12.0
margin 234,000 $ 9.00 30 312,000 0 40
Fixed 180,00 252,000
expenses
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Solutions Manual, Chapter 5

67
 0
Net operating $ 54,00 $
income 0 60,000

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68 Managerial Accounting, 15th Edition

Problem 5-22 (continued)

c. Whether or not the company should automate its operations

depends on how much risk the company is willing to take
and on prospects for future sales. The proposed changes
would increase the company’s fixed costs and its break-even
point. However, the changes would also increase the
company’s CM ratio (from 0.30 to 0.40). The higher CM ratio
means that once the break-even point is reached, profits will
increase more rapidly than at present. If 26,000 units are
sold next month, for example, the higher CM ratio will
generate $6,000 more in profits than if no changes are
made.

The greatest risk of automating is that future sales may drop

back down to present levels (only 19,500 units per month),
and as a result, losses will be even larger than at present
due to the company’s greater fixed costs. (Note the problem
states that sales are erratic from month to month.) In sum,
the proposed changes will help the company if sales
continue to trend upward in future months; the changes will
hurt the company if sales drop back down to or near present
levels.

Note to the Instructor: Although it is not asked for in the

problem, if time permits you may want to compute the point
of indifference between the two alternatives in terms of units
sold; i.e., the point where profits will be the same under
either alternative. At this point, total revenue will be the
same; hence, we include only costs in our equation:

Point of indifference in units

Let Q = sold
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Solutions Manual, Chapter 5

69
 $21.00Q + $180,000
= $18.00Q + $252,000
$3.00Q = $72,000
Q = $72,000 ÷ $3.00
Q = 24,000 units

If more than 24,000 units are sold in a month, the proposed

plan will yield the greater profits; if less than 24,000 units
are sold in a month, the present plan will yield the greater
profits (or the least loss).

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70 Managerial Accounting, 15th Edition

Problem 5-23 (60 minutes)

1. The CM ratio is 60%:

Sales price $20.00 100%

Variable expenses 8.00 40%
Contribution margin $12.00 60%

2
.

3. $75,000 increased sales × 0.60 CM ratio = $45,000 increased

contribution margin. Because the fixed costs will not change,
net operating income should also increase by $45,000.

a.

b. 4 × 20% = 80% increase in net operating income. In dollars,

this increase would be 80% × $60,000 = $48,000.
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Solutions Manual, Chapter 5

71
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72 Managerial Accounting, 15th Edition

Problem 5-23 (continued)

5. Last Year: Proposed:

18,000 units 24,000 units*
Per
Amount Per Unit Amount Unit
$360,00 $432,00 **
Sales 0 $20.00 0 $18.00
Variable expenses 144,000 8.00 192,000 8.00
Contribution margin 216,000 $12.00 240,000 $10.00
Fixed expenses 180,000 210,000
Net operating
income $ 36,000 $ 30,000

*18,000 units + 6,000 units = 24,000 units

**$20.00 × 0.9 = $18.00
No, the changes should not be made.

6. Expected total contribution margin: $247,50

18,000 units × 1.25 × $11.00 per unit* 0
Present total contribution margin:
18,000 units × $12.00 per unit 216,000
Incremental contribution margin, and the amount
by which advertising can be increased with net
operating income remaining unchanged $ 31,500

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Solutions Manual, Chapter 5

73
 *$20.00 – ($8.00 + $1.00) = $11.00

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74 Managerial Accounting, 15th Edition

Problem 5-24 (30 minutes)

1. The contribution margin per sweatshirt would be:

Selling price $13.50

Variable expenses:
Purchase cost of the sweatshirts $8.00
Commission to the student
salespersons 1.50 9.50
Contribution margin $ 4.00

Since there are no fixed costs, the number of unit sales needed
to yield the desired $1,200 in profits can be obtained by
dividing the target $1,200 profit by the unit contribution
margin:

2. Since an order has been placed, there is now a “fixed” cost

associated with the purchase price of the sweatshirts (i.e., the
sweatshirts can’t be returned). For example, an order of 75
sweatshirts requires a “fixed” cost (investment) of $600 (=75
sweatshirts × $8.00 per sweatshirt). The variable cost drops to
only $1.50 per sweatshirt, and the new contribution margin per
sweatshirt becomes:

Selling price $13.50

Variable expenses (commissions 1.50
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Solutions Manual, Chapter 5

75
 only)
Contribution margin $12.00

Since the “fixed” cost of $600 must be recovered before Mr.

Hooper shows any profit, the break-even computation would
be:

If a quantity other than 75 sweatshirts were ordered, the

answer would change accordingly.

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76 Managerial Accounting, 15th Edition

Problem 5-25 (45 minutes)

1. The contribution margin per unit on the first 16,000 units is:

Per Unit
Sales price $3.00
Variable expenses 1.25
Contribution margin $1.75

The contribution margin per unit on anything over 16,000 units

is:

Per Unit
Sales price $3.00
Variable expenses 1.40
Contribution margin $1.60

Thus, for the first 16,000 units sold, the total amount of
contribution margin generated would be:

16,000 units × $1.75 per unit = $28,000

Since the fixed costs on the first 16,000 units total $35,000, the
$28,000 contribution margin above is not enough to permit the
company to break even. Therefore, in order to break even,
more than 16,000 units would have to be sold. The fixed costs
that will have to be covered by the additional sales are:

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Solutions Manual, Chapter 5

77
 Fixed costs on the first 16,000 units $35,000
Less contribution margin from the first 16,000
units 28,000
Remaining unrecovered fixed costs 7,000
Add monthly rental cost of the additional
space needed to produce more than 16,000
units 1,000
Total fixed costs to be covered by remaining
sales $ 8,000

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78 Managerial Accounting, 15th Edition

Problem 5-25 (continued)

The additional sales of units required to cover these fixed costs

would be:

Therefore, a total of 21,000 units (16,000 + 5,000) must be

sold in order for the company to break even. This number of
units would equal total sales of:
21,000 units × $3.00 per unit = $63,000 in total sales

Thus, the company must sell 7,500 units above the break-even
point to earn a profit of $12,000 each month. These units,
added to the 21,000 units required to break even, equal total
sales of 28,500 units each month to reach the target profit.

3. If a bonus of $0.10 per unit is paid for each unit sold in excess
of the break-even point, then the contribution margin on these
units would drop from $1.60 to $1.50 per unit.

The desired monthly profit would be:

25% × ($35,000 + $1,000) = $9,000

Thus,

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Solutions Manual, Chapter 5

79
 Therefore, the company must sell 6,000 units above the break-
even point to earn a profit of $9,000 each month. These units,
added to the 21,000 units required to break even, would equal
total sales of 27,000 units each month.

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80 Managerial Accounting, 15th Edition

Problem 5-26 (60 minutes)

1. Profit = Unit CM × Q − Fixed expenses

$0 = ($30 − $18) × Q − $150,000
$0 = ($12) × Q − $150,000
$12Q = $150,000
Q = $150,000 ÷ $12
Q = 12,500 pairs

12,500 pairs × $30 per pair = $375,000 in sales

Alternative solution:

2. See the graph on the following page.

3. The simplest approach is:

Break-even sales 12,500 pairs

Actual sales 12,000 pairs
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Solutions Manual, Chapter 5

81
 Sales short of break-even 500 pairs

500 pairs × $12 contribution margin per pair = $6,000 loss

Alternative solution:
Sales (12,000 pairs × $30.00 per
pair) $360,000
Variable expenses
(12,000 pairs × $18.00 per pair) 216,000
Contribution margin 144,000
Fixed expenses 150,000
Net operating loss $ (6,000)

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82 Managerial Accounting, 15th Edition

Problem 5-26 (continued)
2. Cost-volume-profit graph:

$500
Total Sales
Break-even point:
$450 Total
12,500 pairs of shoes or
Expense
$375,000 total sales
$400 s

$350
Total Sales (000s)

$300

$250

$200

Total
$150
Fixed
Expense
$100
s
$50

$0
0 2,500 5,000 7,500 10,000 12,500 15,000 17,500 20,000
Number of Pairs of Shoes Sold

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Solutions Manual, Chapter 5

83
Problem 5-26 (continued)

4. The variable expenses will now be $18.75 ($18.00 + $0.75) per

pair, and the contribution margin will be $11.25 ($30.00 –
$18.75) per pair.

Profit = Unit CM × Q − Fixed expenses

$0 = ($30.00 − $18.75) × Q − $150,000
$0 = ($11.25) × Q − $150,000
$11.25
Q = $150,000
Q = $150,000 ÷ $11.25
Q = 13,333 pairs (rounded)

13,333 pairs × $30.00 per pair = $400,000 in sales

Alternative solution:

5. The simplest approach is:

Actual sales 15,000 pairs

Break-even sales 12,500 pairs
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84 Managerial Accounting, 15th Edition

 Excess over break-even sales 2,500 pairs

2,500 pairs × $11.50 per pair* = $28,750 profit

*$12.00 present contribution margin – $0.50 commission =

$11.50

Alternative solution:

Sales (15,000 pairs × $30.00 per pair) $450,000

Variable expenses (12,500 pairs × $18.00
per pair + 2,500 pairs × $18.50 per pair) 271,250
Contribution margin 178,750
Fixed expenses 150,000
Net operating income $ 28,750

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Solutions Manual, Chapter 5

85
Problem 5-26 (continued)

6. The new variable expenses will be $13.50 per pair.

Profit = Unit CM × Q − Fixed expenses

$0 = ($30.00 − $13.50) × Q − $181,500
$0 = ($16.50) × Q − $181,500
$16.50
Q = $181,500
Q = $181,500 ÷ $16.50
Q = 11,000 pairs

11,000 pairs × $30.00 per pair = $330,000 in sales

Although the change will lower the break-even point from

12,500 pairs to 11,000 pairs, the company must consider
whether this reduction in the break-even point is more than
offset by the possible loss in sales arising from having the sales
staff on a salaried basis. Under a salary arrangement, the sales
staff has less incentive to sell than under the present
commission arrangement, resulting in a potential loss of sales
and a reduction of profits. Although it is generally desirable to
lower the break-even point, management must consider the
other effects of a change in the cost structure. The break-even
point could be reduced dramatically by doubling the selling
price but it does not necessarily follow that this would improve
the company’s profit.

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86 Managerial Accounting, 15th Edition

Problem 5-27 (45 minutes)

1. a. Hawaiian Tahitian
Fantasy Joy Total
Amount % Amount % Amount %
$300,00 100 $500,00 100 $800,00
Sales 0 % 0 % 0 100%
280,00
Variable expenses 180,000 60% 100,000 20% 0 35%
$120,00 $400,00
Contribution margin 0 40% 0 80% 520,000 65%
475,80
Fixed expenses 0
Net operating $ 44,20
income 0

b.

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88 Managerial Accounting, 15th Edition

Problem 5-27 (continued)

Hawaiian Tahitian Samoan

2. a. Fantasy Joy Delight Total
Amount % Amount % Amount % Amount %
$300,00 $500,00 $450,00 $1,250,00 100.0
Sales 0 100% 0 100% 0 100% 0 %
Variable 180,00 360,00
expenses 0 60% 100,000 20% 0 80% 640,000 51.2%
Contribution $120,00 $400,00 $ 90,00
margin 0 40% 0 80% 0 20% 610,000 48.8%
Fixed
expenses 475,800
Net operating $ 134,20
income 0

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Solutions Manual, Chapter 5 89

Problem 5-27 (continued)

b.

3. The reason for the increase in the break-even point can be

traced to the decrease in the company’s overall contribution
margin ratio when the third product is added. Note from the
income statements above that this ratio drops from 65% to
48.8% with the addition of the third product. This product (the
Samoan Delight) has a CM ratio of only 20%, which causes the
average contribution margin per dollar of sales to shift
downward.

This problem shows the somewhat tenuous nature of break-

even analysis when the company has more than one product.
The analyst must be very careful of his or her assumptions
regarding sales mix, including the addition (or deletion) of new
products.

It should be pointed out to the president that even though the

break-even point is higher with the addition of the third
product, the company’s margin of safety is also greater. Notice
that the margin of safety increases from $68,000 to $275,000
or from 8.5% to 22%. Thus, the addition of the new product
shifts the company much further from its break-even point,
even though the break-even point is higher.

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90 Managerial Accounting, 15th Edition

Problem 5-28 (60 minutes)

1.

Carbex, Inc.

Income Statement For April

Standard Deluxe Total

Amount % Amount % Amount %
$240,00 $150,00 $390,00
Sales 0 100 0 100 0 100.0
Variable expenses:
Production 60,000 25 60,000 40 120,000 30.8
22,50 58,50
Sales commission 36,000 15 0 15 0 15.0
Total variable 82,50 178,50
expenses 96,000 40 0 55 0 45.8
$144,00 $ $211,50
Contribution margin 0 60 67,500 45 0 54.2
Fixed expenses:
Advertising 105,000
Depreciation 21,700
63,00
Administrative 0
189,70
Total fixed expenses 0
Net operating $
income 21,800

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Solutions Manual, Chapter 5 91

 Carbex, Inc.

Income Statement For May

Standard Deluxe Total

Amount % Amount % Amount %

Sales $60,000 100 $375,000 100 $435,000 100.0

Variable expenses:

Production 15,000 25 150,000 40 165,000 37.9

Sales commission 9,000 15 56,250 15 65,250 15.0

Total variable expenses 24,000 40 206,250 55 230,250 52.9

Contribution margin $36,000 60 $168,750 45 204,750 47.1

Fixed expenses:

Advertising 105,000

Depreciation 21,700

Administrative 63,000

Total fixed expenses 189,700

Net operating income $ 15,050

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92 Managerial Accounting, 15th Edition

Problem 5-28 (continued)

2. The sales mix has shifted over the last year from Standard sets
to Deluxe sets. This shift has caused a decrease in the
company’s overall CM ratio from 54.2% in April to 47.1% in
May. For this reason, even though total sales (in dollars) are
greater, net operating income is lower.

3. Sales commissions could be based on contribution margin

rather than on sales price. A flat rate on total contribution
margin, as the text suggests, might encourage the
salespersons to emphasize the product with the greatest
contribution to the profits of the firm.

a. The break-even in dollar sales can be computed as follows:

b. The break-even point is higher with May’s sales mix than

with April’s. This is because the company’s overall CM ratio
has gone down, i.e., the sales mix has shifted from the more
profitable to the less profitable units.

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Solutions Manual, Chapter 5 93

Problem 5-29 (60 minutes)

1. The income statements would be:

Present
Per
Amount Unit %
Sales $450,000 $30 100%
Variable expenses 315,000 21 70%
Contribution margin 135,000 $ 9 30%
Fixed expenses 90,000
Net operating
income $ 45,000

Proposed
Amount Per Unit %
Sales $450,000 $30 100%
Variable expenses* 180,000 12 40%
Contribution margin 270,000 $18 60%
Fixed expenses 225,000
Net operating
income $ 45,000

*$21 – $9 = $12

2. a. Degree of operating leverage:

Present:
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94 Managerial Accounting, 15th Edition

 Proposed:

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Solutions Manual, Chapter 5 95

Problem 5-29 (continued)

b. Dollar sales to break even:

Present:

Proposed:

c. Margin of safety:

Present:

Proposed:

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96 Managerial Accounting, 15th Edition

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Solutions Manual, Chapter 5 97

Problem 5-29 (continued)

3. The major factor would be the sensitivity of the company’s

operations to cyclical movements in the economy. Because the
new equipment will increase the CM ratio, in years of strong
economic activity, the company will be better off with the new
equipment. However, in economic recession, the company will
be worse off with the new equipment. The fixed costs of the
new equipment will cause losses to be deeper and sustained
more quickly than at present. Thus, management must decide
whether the potential for greater profits in good years is worth
the risk of deeper losses in bad years.

4. No information is given in the problem concerning the new

variable expenses or the new contribution margin ratio. Both of
these items must be determined before the new break-even
point can be computed. The computations are:

New variable expenses:

= (Sales − Variable expenses) − Fixed

Profit expenses
= ($585,000* − Variable expenses) −
$54,000** $180,000
Variable
expenses = $585,000 − $180,000 − $54,000
= $351,000

*New level of sales: $450,000 × 1.30 = $585,000

**New level of net operating income: $45,000 × 1.2 =
$54,000

New CM ratio:
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98 Managerial Accounting, 15th Edition

 $585,00
Sales 0 100%
351,00
Variable expenses 0 60%
$234,00
Contribution margin 0 40%

With the above data, the new break-even point can be

computed:

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Solutions Manual, Chapter 5 99

Problem 5-29 (continued)

The greatest risk is that the increases in sales and net

operating income predicted by the marketing manager will not
happen and that sales will remain at their present level. Note
that the present level of sales is $450,000, which is equal to
the break-even level of sales under the new marketing method.
Thus, if the new marketing strategy is adopted and sales
remain unchanged, profits will drop from the current level of
$45,000 per month to zero.

It would be a good idea to compare the new marketing strategy

to the current situation more directly. What level of sales would
be needed under the new method to generate at least the
$45,000 in profits the company is currently earning each
month? The computations are:

Thus, sales would have to increase by at least 25% ($562,500

is 25% higher than $450,000) in order to make the company
better off with the new marketing strategy than with the
current situation. This appears to be extremely risky.

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100 Managerial Accounting, 15th Edition