Morton Company’s contribution format income statement for last month is given be

Question

Morton Company’s contribution format income statement for last month is given below: Sales (48,000 units × $28 per unit) $ 1,344,000 Variable expenses 940,800 Contribution margin 403,200 Fixed expenses 322,560 Net operating income $ 80,640 The industry in which Morton Company operates is quite sensitive to cyclical movements in the economy. Thus, profits vary considerably from year to year according to general economic conditions. The company has a large amount of unused capacity and is studying ways of improving profits. Required: 1. New equipment has come onto the market that would allow Morton Company to automate a portion of its operations. Variable expenses would be reduced by $8.40 per unit. However, fixed expenses would increase to a total of $725,760 each month. Prepare two contribution format income statements, one showing present operations and one showing how operations would appear if the new equipment is purchased. 2. Refer to the income statements in (1). For the present operations and the proposed new operations, compute (a) the degree of operating leverage, (b) the break-even point in dollar sales, and (c) the margin of safety in dollars and the margin of safety percentage. 3. Refer again to the data in (1). As a manager, what factor would be paramount in your mind in deciding whether to purchase the new equipment? (Assume that enough funds are available to make the purchase.) 4. Refer to the original data. Rather than purchase new equipment, the marketing manager argues that the company’s marketing strategy should be changed. Rather than pay sales commissions, which are currently included in variable expenses, the company would pay salespersons fixed salaries and would invest heavily in advertising. The marketing manager claims this new approach would increase unit sales by 30% without any change in selling price; the company’s new monthly fixed expenses would be $340,032; and its net operating income would increase by 20%. Compute the company's break-even point in dollar sales under the new marketing strategy.

Explanation / Answer

Solution 1:

Solution 2a:

Degree of operating leverage = Contribution / Net operating income

Present operation = $403,200 / $80,640 = 5

Proposed operation = $806,400/ $80,640 = 10

Solution 2b:

Contribution margin ratio = Contribution / Sales

Present operation = $403,200 / $1,344,000 = 30%

Proposed operation = $806,400 / $1,344,000 = 60%

Breakeven sales in dollar = Fixed costs / contribution margin ratio

Present operation = $322,560 / 30% = $1,075,200

Proposed operation = $725,760 / 60% = $1,209,600

Solution 2c:

Margin of safety in dollars = Current sales - Breakeven sales

Present operation = $1,344,000 - $1,075,200 = $268,800

Proposed operation = $1,344,000 - $1,209,600 = $134,400

Margin of safety in percentage = Margin of safety in dollars / current sales

Present operation = $268,800 / $1,344,000 = 20%

Propsoed operation = $134,400 / $1,344,000 = 10%

Note: I have answerd first 4 parts of the question as per chegg policy, kindly post separate question for answer of remaining parts.

Contribution format Income Statement Particulars Present Operation Proposed Opeation Per Unit Amount Per Unit Amount Sales $28.00 $1,344,000.00 $28.00 $1,344,000.00 Variable cost $19.60 $940,800.00 $11.20 $537,600.00 Contribution margin $8.40 $403,200.00 $16.80 $806,400.00 Fixed Expenses $322,560.00 $725,760.00 Net Operating Income $80,640.00 $80,640.00

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