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MTW Corporation was formed on January 1, 2006 and has struggled financially since inception. The
Chief Financial Officer, Horace Daymond, has hired you to perform some cost-volume-profit analysis to
determine what changes can be made to increase profitability. He has provided you with the following
traditional income statement for 2016.
Total sales volume for 2016 was 25,000 units. The relevant range for MTW Corporation is 20,000 –
27,000 units.
Requirements:
(1) Prepare a contribution format income statement for 2016. Calculate the break-even sales
dollars.
(2) The Production Manager believes that by using a lower quality material, the cost of direct
material can be reduced by $2.00 per unit. He expects some customers will change suppliers
and sales volume will be reduced by 1%. Prepare a contribution format income statement for
this alternative. Calculate the break-even sales dollars.
(3) The Quality Control Manager does not agree with the Production Manager’s suggestion and has
a different idea. He believes that an additional piece of equipment can be purchased. The new
piece of equipment will allow the company to decrease Direct Labor to 27% of Sales. The new
piece of equipment will increase fixed costs by $150,000 per year. Prepare a contribution
format income statement for this alternative. Calculate the break-even sales dollars.
(4) The Sales Manager agrees with the Quality Control Manager, however, she also believes that
the equipment will increase productivity and that by decreasing the sales price by $50 per unit,
the company will be able to increase sales by 1.5 % over 2016 sales volume. Prepare a
contribution format income statement for this alternative. Calculate the break-even sales
dollars.
(5) Prepare a memo to the Chief Financial Officer summarizing the results of your analysis. Include
specific financial information. Be sure to provide a conclusion for your analysis.
MTW Corporation Income Statement he Year Ended December 31, 20 Sales 11,250,000 Cost of goods sold: Direct labor Direct material Variable manufacturing overhead Fixed manufacturing overhead Total cost of goods sold 3,262,500 2,925,000 1,350,000 8,912,500 Gross margin 2,337,500 Operating expenses: Variable selling expenses Fixed selling expenses Fixed administrative expenses Total operating expenses 1,125,000 687,500 675,000 2,487,500 Net operating loss
Expert Answer
| 1) | ||||
| CONTRIBUTION FORMAT INCOME STATEMENT | Per Unit | |||
| Sales in units | 25000 | |||
| Sales revenue | 11250000 | 450.00 | ||
| Variable expenses: | ||||
| Direct labor | 3262500 | 130.50 | ||
| Direct material | 2925000 | 117.00 | ||
| Variable manufacturing overhead | 1350000 | 54.00 | ||
| Variable selling expenses | 1125000 | 45.00 | ||
| Total variable expenses | 8662500 | 346.50 | ||
| Contribution margin | 2587500 | 103.50 | ||
| Fixed Expenses: | ||||
| Manufacturing overhead | 1375000 | |||
| Selling expenses | 687500 | |||
| Administrative expenses | 675000 | |||
| Total fixed expenses | 2737500 | |||
| Net operating loss | -150000 | |||
| CM ratio = Contribution margin/Sales = 2587500/11250000 = | 23.00% | |||
| Break even sales in $ = Fixed cost/CM ratio =2737500/23% = | $ 11,902,174 | |||
| 2) | ||||
| CONTRIBUTION FORMAT INCOME STATEMENT | Per Unit | |||
| Sales in units (25000*99%) | 24750 | |||
| Sales revenue | 11137500 | 450.00 | ||
| Variable expenses: | ||||
| Direct labor | 3229875 | 130.50 | ||
| Direct material | 2846250 | 115.00 | ||
| Variable manufacturing overhead | 1336500 | 54.00 | ||
| Variable selling expenses | 1113750 | 45.00 | ||
| Total variable expenses | 8526375 | 344.50 | ||
| Contribution margin | 2611125 | 105.50 | ||
| Fixed Expenses: | ||||
| Manufacturing overhead | 1375000 | |||
| Selling expenses | 687500 | |||
| Administrative expenses | 675000 | |||
| Total fixed expenses | 2737500 | |||
| Net operating loss | -126375 | |||
| CM ratio = Contribution margin/Sales = 2611125/11137500 = | 23.44% | |||
| Break even sales in $ = Fixed cost/CM ratio =2737500/23.44% = | $ 11,676,540 | |||
| 3) | ||||
| CONTRIBUTION FORMAT INCOME STATEMENT | Per Unit | |||
| Sales in units | 25000 | |||
| Sales revenue | 11250000 | 450.00 | ||
| Variable expenses: | ||||
| Direct labor | 880875 | 35.24 | ||
| Direct material | 2925000 | 117.00 | ||
| Variable manufacturing overhead | 1350000 | 54.00 | ||
| Variable selling expenses | 1125000 | 45.00 | ||
| Total variable expenses | 6280875 | 251.24 | ||
| Contribution margin | 4969125 | 198.77 | ||
| Fixed Expenses: | ||||
| Manufacturing overhead | 1375000 | |||
| Selling expenses | 687500 | |||
| Administrative expenses | 675000 | |||
| Additional fixed expenses | 150000 | |||
| Total fixed expenses | 2887500 | |||
| Net operating income | 2081625 | |||
| CM ratio = Contribution margin/Sales = 4969125/11250000 = | 44.17% | |||
| Break even sales in $ = Fixed cost/CM ratio =2887500/44.17% = | $ 6,537,242 | |||
| 4) | ||||
| CONTRIBUTION FORMAT INCOME STATEMENT | Per Unit | |||
| Sales in units (25000*101.5%) | 25375 | |||
| Sales revenue | 10150000 | 400.00 | ||
| Variable expenses: | ||||
| Direct labor | 894088 | 35.24 | ||
| Direct material | 2968875 | 117.00 | ||
| Variable manufacturing overhead | 1370250 | 54.00 | ||
| Variable selling expenses | 1141875 | 45.00 | ||
| Total variable expenses | 6375088 | 251.24 | ||
| Contribution margin | 3774912 | 148.77 | ||
| Fixed Expenses: | ||||
| Manufacturing overhead | 1375000 | |||
| Selling expenses | 687500 | |||
| Administrative expenses | 675000 | |||
| Additional fixed expenses | 150000 | |||
| Total fixed expenses | 2887500 | |||
| Net operating income | 887412 | |||
| CM ratio = Contribution margin/Sales = 3774912/10150000 = | 37.19% | |||
| Break even sales in $ = Fixed cost/CM ratio =2887500/37.19% = | $ 7,763,923 | |||
| 5) Note to CFO: | ||||
| The relevant financial estimates for the suggestions advanced are tabulated below: | ||||
| Existing | PM’s suggestion | QCM’s suggestion | QCM’s suggestion with SM’s modifications | |
| Sales units | 25000 | 24750 | 25000 | 25375 |
| Sales price per unit | 450 | 450 | 450 | 400 |
| Sales revenue | 11250000 | 11137500 | 11250000 | 10150000 |
| CM ratio | 23.00% | 23.44% | 44.17% | 37.19% |
| Net Operating income/loss | -150000 | -126375 | 2081625 | 887412 |
| BEP in $ | $ 11,902,174 | $ 11,676,540 | $ 6,537,242 | $ 7,763,923 |
| BEP in units | 26449 | 25948 | 14527 | 19410 |
| Of the various suggestions, the QCM’s suggestion, without the modification suggested by SM, would result in | ||||
| highest net operating income. This alternative has lowest BEP in terms of units and $; hence, would afford | ||||
| maximum margin of safety. | ||||
