The industry in which Morton Company operates is quite sensitive to cyclical mov
ID: 2587032 • Letter: T
Question
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.
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 $6.00 per unit. However, fixed expenses would increase to a total of $507,600 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. (Round your "Per unit" answers to 2 decimal places.)
Refer to the income statements in (1) above. For both present operations and the proposed new operations, compute
The margin of safety in both dollars and percentage terms.
Refer again to the data in (1) above. 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.)
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 50% without any change in selling price; the company’s new monthly fixed expenses would be $282,000; and its net operating and its net operating income would increase by 25%. Compute the break-even point in dollar sales for the company under the new marketing strategy.
Question 18: Morton Company’s contribution format income statement for last month is given below:Explanation / Answer
Solution:
Part 1 – Contribution Format Income Statement
Contribution Format Income Statement
Present Operation
Proposed Operation (if new equipment is purchased)
Per Unit
Total
Per Unit
Total
Sales
$20.00
$940,000
$20.00
$940,000
Variable Expenses
$14.00
$658,000
$8.00
$376,000
Contribution Margin
$6.00
$282,000
$12.00
$564,000
Fixed Expenses
$225,600
$507,600
Net Operating Income
$56,400
$56,400
Part 2(a) – Degree of Operating Leverage
Degree of Operating Leverage (DOL) = Contribution Margin / Net Operating Income
DOL Present Operation = Contribution Margin $282,000 / Net Operating Income $56,400 = 5 times
DOL Proposed New Operation = Contribution Margin $564,000 / Net Operating Income $56,400 = 10 times
Part 2(b) – Break Even Point in dollars sales
Contribution Margin Ratio Present Operation = Contribution Margin $6 / Selling Price $20 = 0.30
Contribution Margin Ratio New Proposed Operation = Contribution Margin $12 / Selling Price $20= 0.60
Break Even Point in dollars = Total Fixed Expenses / Contribution Margin Ratio
Present Operation
New Proposed Operation
Total Fixed Expenses (A)
$225,600
$507,600
Contribution Margin Ratio (B)
0.3
0.6
Break Even Sales in dollars (A / B)
$752,000
$846,000
Part 2(c) – Margin of safety in dollar and percentage
Margin of Safety in dollars = Total Sales – Break Even Sales
Present Operation
New Proposed Operation
Sales (A)
$940,000
$940,000
Break Even Sales in dollars (As calculated above) (B)
$752,000
$846,000
Margin of Safety in dollars (A-B)
$188,000
$94,000
Margin of Safety in percentage = Margin of Safety in dollar / Total Sales x 100
Present Operation
New Proposed Operation
Margin of Safety in dollars (A)
$188,000
$94,000
Sales (B)
$940,000
$940,000
Margin of Safety in Percentage (A/B*100)
20.00%
10.00%
Hope the above calculations, working and explanations are clear to you and help you in understanding the concept of question.... please rate my answer...in case any doubt, post a comment and I will try to resolve the doubt ASAP…thank you
Pls ask separate question for remaining parts.
Contribution Format Income Statement
Present Operation
Proposed Operation (if new equipment is purchased)
Per Unit
Total
Per Unit
Total
Sales
$20.00
$940,000
$20.00
$940,000
Variable Expenses
$14.00
$658,000
$8.00
$376,000
Contribution Margin
$6.00
$282,000
$12.00
$564,000
Fixed Expenses
$225,600
$507,600
Net Operating Income
$56,400
$56,400
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