CVP Analysis Additional Questions
Q1. Garrett Manufacturing sold 410,000 units of its product for $68 per unit in 2017. Variable
cost per unit is $60, and total fixed costs are $1,640,000.
Required:
1. Calculate (a) contribution margin and (b) operating income.
2. Garrett’s current manufacturing process is labor intensive. Kate Schoenen, Garrett’s
production manager, has proposed investing in state-of-the-art manufacturing equipment,
which will increase the annual fixed costs to $5,330,000. The variable costs are expected
to decrease to $54 per unit. Garrett expects to maintain the same sales volume and selling
price next year. How would acceptance of Schoenen’s proposal affect your answers to (a)
and (b) in requirement 1?
3. Should Garrett accept Schoenen’s proposal? Explain.
SOLUTION
1a. Sales ($68 per unit × 410,000 units) $27,880,000
Variable costs ($60 per unit × 410,000 units) 24,600,000
Contribution margin $ 3,280,000
1b. Contribution margin (from above) $3,280,000
Fixed costs 1,640,000
Operating income $1,640,000
2a. Sales (from above) $27,880,000
Variable costs ($54 per unit × 410,000 units) 22,140,000
Contribution margin $ 5,740,000
2b. Contribution margin $5,740,000
Fixed costs 5,330,000
Operating income $ 410,000
3. Operating income is expected to decrease by $1,230,000 ($1,640,000 − $410,000) if Ms.
Schoenen’s proposal is accepted.
The management would consider other factors before making the final decision. It is
likely that product quality would improve as a result of using state of the art equipment. Due
to increased automation, probably many workers will have to be laid off. Garrett’s
management will have to consider the impact of such an action on employee morale. In
addition, the proposal increases the company’s fixed costs dramatically. This will increase the
company’s operating leverage and risk.
Q2. Sunset Travel Agency specializes in flights between Toronto and Jamaica. It books
passengers on Hamilton Air. Sunset’s fixed costs are $23,500 per month. Hamilton Air
charges passengers $1,500 per round-trip ticket.
Calculate the number of tickets Sunset must sell each month to (a) break even and (b) make a
target operating income of $10,000 per month in each of the following independent cases.
Required:
1. Sunset’s variable costs are $43 per ticket. Hamilton Air pays Sunset 6% commission on
ticket price.
2. Sunset’s variable costs are $40 per ticket. Hamilton Air pays Sunset 6% commission on
ticket price.
3. Sunset’s variable costs are $40 per ticket. Hamilton Air pays $60 fixed commission per
ticket to Sunset. Comment on the results.
4. Sunset’s variable costs are $40 per ticket. It receives $60 commission per ticket from
Hamilton Air. It charges its customers a delivery fee of $5 per ticket. Comment on the
results.
SOLUTION
CVP analysis, changing revenues and costs.
1a. SP = 6% × $1,500 = $90 per ticket
VCU = $43 per ticket
CMU = $90 – $43 = $47 per ticket
FC = $23,500 a month
FC $23,500
Q = CMU = $47 per ticket
= 500 tickets
FC + TOI $23,500 $10,000
1b. Q = CMU = $47 per ticket
$33,500
= $47 per ticket
= 713 tickets
2a. SP = 6% × $1,500 = $90 per ticket
VCU = $40 per ticket
CMU = $90 – $40 = $50 per ticket
FC = $23,500 a month
FC $23,500
Q = CMU = $50 per ticket
= 470 tickets
FC + TOI $23,500 $10,000
2b. Q = CMU = $50 per ticket
$33,500
= $50 per ticket
= 670 tickets
3a. SP = $60 per ticket
VCU = $40 per ticket
CMU = $60 – $40 = $20 per ticket
FC = $23,500 a month
FC $23,500
Q = CMU = $20 per ticket
= 1,175 tickets
FC + TOI $23,500 $10,000
3b. Q = CMU = $20 per ticket
$33,500
= $20 per ticket
= 1,675 tickets
The reduced commission sizably increases the breakeven point and the number of tickets
required to yield a target operating income of $10,000:
6%
Commission Fixed
(Requirement 2) Commission of $60
Breakeven point 470 1,175
Attain OI of $10,000 670 1,675
4a. The $5 delivery fee can be treated as either an extra source of revenue (as done
below) or as a cost offset. Either approach increases CMU $5:
SP = $65 ($60 + $5) per ticket
VCU = $40 per ticket
CMU = $65 – $40 = $25 per ticket
FC = $23,500 a month
FC $23,500
Q = CMU = $25 per ticket
= 940 tickets
FC + TOI $23,500 $10,000
4b. Q = CMU = $25 per ticket
$33,500
= $25 per ticket
= 1.340 tickets
The $5 delivery fee results in a higher contribution margin, which reduces both the
breakeven point and the tickets sold to attain operating income of $10,000.
Q3. The Deli-Sub Shop owns and operates six stores in and around Minneapolis. You are
given the following corporate budget data for next year:
Revenues $11,000,000
Fixed costs $ 3,000,000
Variable costs $ 7,500,000
Variable costs change based on the number of subs sold.
Compute the budgeted operating income for each of the following deviations from the
original budget data. (Consider each case independently.)
Required:
1. A 10% increase in contribution margin, holding revenues constant
2. A 10% decrease in contribution margin, holding revenues constant
3. A 5% increase in fixed costs
4. A 5% decrease in fixed costs
5. A 5% increase in units sold
6. A 5% decrease in units sold
7. A 10% increase in fixed costs and a 10% increase in units sold
8. A 5% increase in fixed costs and a 5% decrease in variable costs
9. Which of these alternatives yields the highest budgeted operating income? Explain why
this is the case.
SOLUTION
Budgeted
Variable Contribution Fixed Operating
Revenues Costs Margin Costs Income
Orig. $11,000,000 $7,500,000 $3,500,000 $3,000,000 $500,000
1. 11,000,000 7,150,000 3,850,000 3,000,000 850,000
2. 11,000,000 7,850,000 3,150,000 3,000,000 150,000
3. 11,000,000 7,500,000 3,500,000 3,150,000 350,000
4. 11,000,000 7,500,000 3,500,000 2,850,000 650,000
5. 11,550,000 7,875,000 3,675,000 3,000,000 675,000
6. 10,450,000 7,125,000 3,325,000 3,000,000 325,000
7. 12,100,000 8,250,000 3,850,000 3,300,000 550,000
8. 11,000,000 7,125,000 3,875,000 3,150,000 725,000
Gstands for given.
a$3,500,000 × 1.10; b$3,500,000 × 0.90; c$3,000,000 × 1.05; d$3,000,000 × 0.95; e$11,000,000
× 1.05; f$7,500,000 × 1.05; g$1,100,000 × 0.95; h$7,500,000 × 0.95; i$11,000,000 × 1.10;
j$7,500,000 × 1.10; k$3,000,000 × 1.10; l$7,500,000 × 0.95; m$3,000,000 × 1.05
9. Alternative 1, a 10% increase in contribution margin holding revenues constant, yields the
highest budgeted operating income because it has the highest increase in contribution
margin without increasing fixed costs.
Q4. The Doral Company manufactures and sells pens. Currently, 5,000,000 units are sold per
year at $0.50 per unit. Fixed costs are $900,000 per year. Variable costs are $0.30 per unit.
Consider each case separately:
Required:
1. a. What is the current annual operating income?
b. What is the current breakeven point in revenues?
Compute the new operating income for each of the following changes:
2. A $0.04 per unit increase in variable costs
3. A 10% increase in fixed costs and a 10% increase in units sold
4. A 20% decrease in fixed costs, a 20% decrease in selling price, a 10% decrease in variable
cost per unit, and a 40% increase in units sold
Compute the new breakeven point in units for each of the following changes:
4. A 10% increase in fixed costs
5. A 10% increase in selling price and a $20,000 increase in fixed costs
SOLUTION
1a. [Units sold (Selling price – Variable costs)] – Fixed costs = Operating income
[5,000,000 ($0.50 – $0.30)] – $900,000 = $100,000
1b. Fixed costs ÷ Contribution margin per unit = Breakeven units
$900,000 ÷ [($0.50 – $0.30)] = 4,500,000 units
Breakeven units × Selling price = Breakeven revenues
4,500,000 units × $0.50 per unit = $2,250,000
or,
Selling price −Variable costs
Contribution margin ratio = Selling price
$0.50 - $0.30
= $0.50 = 0.40
Fixed costs ÷ Contribution margin ratio = Breakeven revenues
$900,000 ÷ 0.40 = $2,250,000
2. 5,000,000 ($0.50 – $0.34) – $900,000 = $ (100,000)
3. [5,000,000 (1.1) ($0.50 – $0.30)] – [$900,000 (1.1)] = $ 110,000
4. [5,000,000 (1.4) ($0.40 – $0.27)] – [$900,000 (0.8)] = $ 190,000
5. $900,000 (1.1) ÷ ($0.50 – $0.30) = 4,950,000 units
6. ($900,000 + $20,000) ÷ ($0.55 – $0.30) = 3,680,000 units
Q5. Westover Motors is a small car dealership. On average, it sells a car for $32,000, which it
purchases from the manufacturer for $28,000. Each month, Westover Motors pays $53,700 in
rent and utilities and $69,000 for salespeople’s salaries. In addition to their salaries,
salespeople are paid a commission of $400 for each car they sell. Westover Motors also
spends $10,500 each month for local advertisements. Its tax rate is 40%.
Required:
1. How many cars must Westover Motors sell each month to break even?
2. Westover Motors has a target monthly net income of $69,120. What is its target
monthly operating income? How many cars must be sold each month to reach the
target monthly net income of $69,120?
SOLUTION
1. Monthly fixed costs = $53,700 + $69,000 + $10,500 = $133,200
Contribution margin per unit = $32,000 – $28,000 – $400 = $ 3,600
Monthly fixed costs $133,200
Breakeven units per month = Contribution margin per unit = $3,600 per car = 37 cars
2. Tax rate 40%
Target net income $69,120
Target net income $69,120 $69,120
Target operating income = 1 tax rate (1 0.40) 0.60 $115,200
Quantity of output units Fixed costs + Target operating income $133, 200 $115, 200
required to be sold = Contribution margin per unit $3, 600 69
cars
6.
New Upgrade
Customers Customers
SP $195 $115
VCU 65 35
CMU $130 $ 80
The 60%/40% sales mix implies that, in each bundle, 3 units are sold to new customers and
2 units are sold to upgrade customers.
Contribution margin of the bundle = 3 $130 + 2 $80 = $390 + $160 = $550
$16,500, 000
Breakeven point in bundles = $550 = 30,000 bundles
Breakeven point in units is:
Sales to new customers: 30,000 bundles 3 units per
bundle 90,000 units
30,000 bundles 2 units per 60,000
Sales to upgrade customers: bundle units
Total number of units to breakeven (rounded) 150,000
units
Alternatively,
Let S = Number of units sold to upgrade customers
1.5S = Number of units sold to new customers
Revenues – Variable costs – Fixed costs = Operating income
[$195 (1.5S) + $115S] – [$65 (1.5S) + $35S] – $16,500,000 = OI
$407.5S – $132.5S – $16,500,000 = OI
Breakeven point is 150,000 units when OI = $0 because
$275S = $16,500,000
S = 60,000 units sold to upgrade customers
1.5S = 90,000 units sold to new customers
BEP = 150,000 units
Check
Revenues ($195 90,000) + ($115 60,000) $24,450,000
Variable costs ($65 90,000) + ($35 60,000) 7,950,000
Contribution margin 16,500,000
Fixed costs 16,500,000
Operating income $ 0
2. When 170,000 units are sold, mix is:
Units sold to new customers (60% 170,000) 102,000
Units sold to upgrade customers (40% 170,000) 68,000
Revenues ($195 102,000) + ($115 68,000) $27,710,000
Variable costs ($65 102,000) + ($35 68,000) 9,010,000
Contribution margin 18,700,000
Fixed costs 16,500,000
Operating income $ 2,200,000
3a. At New 40%/Upgrade 60% mix, each bundle contains 2 units sold to new customers
and 3 units sold to upgrade customers.
Contribution margin of the bundle = 2 $130 + 3 $80 = $260 + $240 = $500
$16,500, 000
Breakeven point in bundles = $500 = 33,000 bundles
Breakeven point in units is:
Sales to new customers: 33,000 bundles × 2 unit per bundle 66,000 units
Sales to upgrade customers: 33,000 bundles × 3 unit per bundle 99,000 units
Total number of units to breakeven 165,000 units
Alternatively,
Let S = Number of units sold to new customers
then 1.5S = Number of units sold to upgrade customers
[$195S + $115 (1.5S)] – [$65S + $35 (1.5S)] – $16,500,000 = OI
367.5S – 117.5S = $16,500,000
250S = $16,500,000
S = 66,000 units sold to new customers
1.5S = 99,000 units sold to upgrade customers
BEP = 165,000 units
Check
Revenues ($195 66,000) + ($115 99,000) $24,255,000
Variable costs ($65 66,000) + ($35 99,000) 7,755,000
Contribution margin 16,500,000
Fixed costs 16,500,000
Operating income $ 0
3b. At New 80%/ Upgrade 20% mix, each bundle contains 4 units sold to new customers
and 1 unit sold to upgrade customers.
Contribution margin of the bundle = 4 $130 + 1 $80 = $520 + $80 = $600
$16,500, 000
Breakeven point in bundles = $600 = 27,500 bundles
Breakeven point in units is:
Sales to new customers: 27,500 bundles 4 units per bundle 110,000 units
Sales to upgrade customers: 27,500 bundles 1 unit per bundle 27,500 units
Total number of units to breakeven 137,500 units
Alternatively,
Let S = Number of units sold to upgrade customers
then 4S = Number of units sold to new customers
[$195 (4S) + $115S] – [$65 (4S) + $35S] – $16,500,000 = OI
895S – 295S = $16,500,000
600S = $16,500,000
S = 27,500 units sold to upgrade customers
4S = 110,000 units sold to new customers
137,500 units
Check
Revenues ($195 110,000) + ($115 27,500) $24,612,500
Variable costs ($65 110,000) + ($35 27,500) 8,112,000
Contribution margin 16,500,000
Fixed costs 16,500,000
Operating income $ 0
3c. As Chartz increases its percentage of new customers, which have a higher contribution
margin per unit than upgrade customers, the number of units required to break even
decreases:
New Upgrade Breakeven
Customers Customers Point
Requirement 3(a) 40% 60% 165,000
Requirement 1 60 40 150,000
Requirement 3(b) 80 20 137,500
7.
1. Sales of A, B, and C are in ratio 25,000 : 100,000 : 50,000. So for every 1 unit of A, 4
(100,000 ÷ 25,000) units of B are sold, and 2 (50,000 ÷ 25,000) units of C are sold.
Contribution margin of the bundle = 1 $5+ 4 $4 + 2 $3 = $5 + $16 + $6 = $27
$351, 000
Breakeven point in bundles = $27 = 13,000 bundles
Breakeven point in units is:
Product A: 13,000 bundles × 1 unit per bundle 13,000 units
13,000 bundles × 4 units per
Product B: bundle 52,000 units
13,000 bundles × 2 units per
Product C: bundle 26,000 units
Total number of units to breakeven 91,000 units
Alternatively,
Let Q = Number of units of A to break even
4Q = Number of units of B to break even
2Q = Number of units of C to break even
Contribution margin – Fixed costs = Zero operating income
$5Q + $4(4Q) + $3(2Q) – $351,000 = 0
$27Q = $351,000
Q = 13,000 ($351,000 ÷ $27) units of A
4Q = 52,000 units of B
2Q = 26,000 units of C
Total = 91,000 units
2. Contribution margin:
A: 25,000 $5
$125,000
B: 100,000 $4 400,000
C: 50,000 $3
150,000
Contribution margin $675,000
Fixed costs 351,000
Operating income $324,000
3. Contribution margin
A: 25,000 $5 $125,000
B: 75,000 $4 300,000
C: 75,000 $3 225,000
Contribution margin $650,000
Fixed costs 351,000
Operating income $299,000
Sales of A, B, and C are in ratio 25,000 : 75,000 : 75,000. So for every 1 unit of A, 3
(75,000 ÷ 25,000) units of B and 3 (75,000 ÷ 25,000) units of C are sold.
Contribution margin of the bundle = 1 $5 + 3 $4 + 3 $3 = $5 + $12 + $9 = $26
$351, 000
Breakeven point in bundles = $26 = 13,500 bundles
Breakeven point in units is:
Product A: 13,500 bundles × 1 unit per bundle 13,500 units
13,500 bundles × 3 units per
Product B: bundle 40,500 units
13,500 bundles × 3 units per
Product C: bundle 40,500 units
Total number of units to breakeven 94,500 units
Alternatively,
Let Q = Number of units of A to break even
3Q = Number of units of B to break even
3Q = Number of units of C to break even
Contribution margin – Fixed costs = Breakeven point
$5Q + $4(3Q) + $3(3Q) – $351,000 = 0
$26Q = $351,000
Q = 13,500 ($351,000 ÷ $26) units of A
3Q = 40,500 units of B
3Q = 40,500 units of C
Total = 94,500 units
Breakeven point increases because the new mix contains less of the higher contribution
margin per unit, product B, and more of the lower contribution margin per unit, product C.
4. No, it is not always better to choose the sales mix with the lowest breakeven point
because this calculation ignores the demand for the various products. The company should
look to and sell as much of each of the three products as it can to maximize operating income
even if this means that this sales mix results in a higher breakeven point.
8.
1. Sales of A, B, and C are in ratio 20,000 : 100,000 : 80,000. So for every 1 unit of A, 5 (100,000
÷ 20,000) units of B are sold, and 4 (80,000 ÷ 20,000) units of C are sold.
Contribution margin of the bundle = 1 $3 + 5 $2 + 4 $1 = $3 + $10 + $4 = $17
Breakeven point in bundles = = 15,000 bundles
Breakeven point in units is:
Product A: 15,000 bundles × 1 unit per bundle 15,000 units
Product B: 15,000 bundles × 5 units per bundle 75,000 units
Product C: 15,000 bundles × 4 units per bundle 60,000 units
Total number of units to breakeven 150,000 units
Alternatively,
Let Q = Number of units of A to break even
5Q = Number of units of B to break even
4Q = Number of units of C to break even
Contribution margin – Fixed costs = Zero operating income
$3Q + $2(5Q) + $1(4Q) – $255,000 = 0
$17Q = $255,000
Q = 15,000 ($255,000 ÷ $17) units of A
5Q = 75,000 units of B
4Q = 60,000 units of C
Total = 150,000 units
2. Contribution margin:
A: 20,000 $3 $ 60,000
B: 100,000 $2 200,000
C: 80,000 $1 80,000
Contribution margin $340,000
Fixed costs 255,000
Operating income $ 85,000
3. Contribution margin
A: 20,000 $3 $ 60,000
B: 80,000 $2 160,000
C: 100,000 $1 100,000
Contribution margin $320,000
Fixed costs 255,000
Operating income $ 65,000
Sales of A, B, and C are in ratio 20,000 : 80,000 : 100,000. So for every 1 unit of A, 4 (80,000 ÷
20,000) units of B and 5 (100,000 ÷ 20,000) units of C are sold.
Contribution margin of the bundle = 1 $3 + 4 $2 + 5 $1 = $3 + $8 + $5 = $16
Breakeven point in bundles = = 15,938 bundles (rounded up)
Breakeven point in units is:
Product A: 15,938 bundles × 1 unit per bundle 15,938 units
Product B: 15,938 bundles × 4 units per bundle 63,752 units
Product C: 15,938 bundles × 5 units per bundle 79,690 units
Total number of units to breakeven 159,380 units
Alternatively,
Let Q = Number of units of A to break even
4Q = Number of units of B to break even
5Q = Number of units of C to break even
Contribution margin – Fixed costs = Breakeven point
$3Q + $2(4Q) + $1(5Q) – $255,000 = 0
$16Q = $255,000
Q = 15,938 ($255,000 ÷ $16) units of A (rounded up)
4Q = 63,752 units of B
5Q = 79,690 units of C
Total = 159,380 units
Breakeven point increases because the new mix contains less of the higher contribution
margin per unit, product B, and more of the lower contribution margin per unit, product C.
