A company wants to begin selling a new pair of hand-held pliers in the upcoming
ID: 1118275 • Letter: A
Question
A company wants to begin selling a new pair of hand-held pliers in the upcoming fiscal year. They want to know how many hand-held pliers they will have to sell in order to break-even on this investment in materials and equipment. They received the following data from the chief financial officer:
Fixed costs:
Variable costs (per unit):
Metal molding machine
$120,000
Packaging material
$1.00
Plastic grip molder
$25,000
Raw material
$1.00
Sander
$5,000
Grip material
$0.50
Shipping
$ 0.50
The marketing department estimates that they can sell their new pliers for $15.00 per unit. They further project that they will average 1,500 units per month. The goal is that they will break-even and start to earn a profit within the first year. Their target-profit level for the end of the first fiscal year is $45,000.
Please explain
1. calculate the number of months it will take to break-even.
2. determine the share of TVC in TR and calculate break-even revenue using the formula TR = TFC / (1 - a).
3. calculate the break-even quantity with a fixed profit requirement ($45,000) using the formula Q = (TFC + Profit requirement) / (P - AVC)
4. calculate the Degree of Operating Leverage (DOL) at the break-even quantity with a fixed profit requirement you estimated in (question 3). Use Formula DOL = Q (P - AVC) / Q (P - AVC) - TFC
Fixed costs:
Variable costs (per unit):
Metal molding machine
$120,000
Packaging material
$1.00
Plastic grip molder
$25,000
Raw material
$1.00
Sander
$5,000
Grip material
$0.50
Shipping
$ 0.50
Explanation / Answer
1.
Total fixed cost = 120000+25000+5000 = $150000
Total variable cost per unit = 1+1+.5+.5 = $3
Price per unit = $15
Breakeven point = fixed cost/(price per unit – variable cost per unit)
Breakeven point = 150000/(15-3) = 12500 units
Monthly sales = 1500 units per month
No. of months to achieve the breakeven = Breakeven volume/monthly sales = 12500/1500
No. of months to achieve the breakeven = 8.33 months
2.
Share of TVC in TR = 3/15 = 20%
Breakeven point = fixed cost/(price per unit – variable cost per unit)
Breakeven point = 150000/(15-3) = 12500 units
Breakeven revenue = 12500*15 = $187500
3.
If fixed profit requirement is $45000,
Then,
Q = (TFC + Profit requirement) / (P - AVC)
Q = (150000+45000)/(15-3)
Q = 16250 units
4.
DOL = Q (P - AVC) / (Q (P - AVC) – TFC)
DOL = 16250*(15-3)/( 16250*(15-3)- (150000))
DOL = 4.33
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