This year , Kirby company sold 35,000 units of production at $16 per unit. Maunfactoring and selling the product required $120,000 of mixed manufacturing costs and $180,000 of fixed selling and administrative expenses. This years variable costs and expenses per unit were:
Material……………………………….....................................$4. 00
Direct Labour(paid on the basis of completed units)………….$3.00
Variable Manufacturing overhead costs……………………….$0.40
Variable selling and administrative expenses…………………$0.20
Next year the company will use new raw material that is easier to work with and cheaper than the old material. A switch the new material will decrease material costs by 60% and direct labour costs can be decreased by 40%. The new material will not affect the products quality or marketability. The next set of decisions concerns the marketing strategy to be used. Because the factory’s output is creeping up to it’s annual capacity of 40,000 units, some consideration is being given to increase the selling price and to reduce the number of units sold. At this point two strategies have been identified. Under plan 1, the company will keep the price at the current level and sell the same volume as this year. This plan increases profit because of the materials change. Under plan 2, the products price will increase by 25%, but unit sales volume will fall only 10%. Under both plan 1 and 2, all of the fixed costs and variable costs(per unit) will be exactly the same.
Required
1. Compute the break-even point in dollars for plan 1 and 2.
2. Prepare CVP charts for both plan 1and 2
3. Prepare side -by -side condensed forecasted income statements showing the anticipated results of plan 1 and 2. The statement should show sales. Total fixed costs, total variable costs and expenses, income before taxes, income taxes(30% rate), and net income.
To compute the break-even point in dollars, we need to calculate the total sales revenue required to cover all the costs. The break-even point is the point at which total revenue equals total costs, resulting in zero profit.
1. Break-even point for plan 1:
- Fixed Costs = $120,000 (mixed manufacturing costs) + $180,000 (fixed selling and administrative expenses) = $300,000
- Variable Costs per unit = $4.00 (material) + $3.00 (direct labor) + $0.40 (variable manufacturing overhead costs) + $0.20 (variable selling and administrative expenses) = $7.60 per unit
- Selling Price per unit = $16.00
Break-even point (in units) = Fixed Costs / (Selling Price per unit - Variable Costs per unit)
= $300,000 / ($16.00 - $7.60)
= $300,000 / $8.40
= 35,714.29 units (rounded to the nearest whole unit)
Break-even point (in dollars) = Break-even point (in units) x Selling Price per unit
= 35,714.29 units x $16.00
= $571,428.56
Therefore, the break-even point for plan 1 is $571,428.56.
2. CVP (Cost-Volume-Profit) charts are graphical representations that show how costs and profits change with changes in sales volume. These charts help visualize the relationship between costs, revenues, and profits.
For Plan 1:
- X-axis: Sales volume (in units)
- Y-axis: Sales revenue, total costs, and profit (in dollars)
For Plan 2:
- The CVP chart for Plan 2 will be similar to Plan 1, with the difference being the change in selling price and unit sales volume.
3. To prepare the side-by-side condensed forecasted income statements for Plan 1 and Plan 2, we need to calculate the sales, total fixed costs, total variable costs and expenses, income before taxes, income taxes (at a 30% rate), and net income for each plan.
Forecasted Income Statement for Plan 1:
- Sales Revenue: 35,000 units x $16.00 per unit = $560,000
- Total Fixed Costs: $300,000
- Total Variable Costs and Expenses: 35,000 units x $7.60 per unit = $266,000
- Income Before Taxes: Sales Revenue - Total Variable Costs and Expenses - Total Fixed Costs
= $560,000 - $266,000 - $300,000
= -$6,000 (loss)
- Income Taxes (30% rate): -$6,000 x 30% = -$1,800
- Net Income: Income Before Taxes - Income Taxes
= -$6,000 - (-$1,800) = -$4,200 (loss)
Forecasted Income Statement for Plan 2:
- Sales Revenue: (35,000 units x $16.00 per unit) + (35,000 units x $16.00 per unit x 25% price increase) = $700,000
- Total Fixed Costs: $300,000
- Total Variable Costs and Expenses: $266,000 (same as Plan 1)
- Income Before Taxes: Sales Revenue - Total Variable Costs and Expenses - Total Fixed Costs
= $700,000 - $266,000 - $300,000
= $134,000
- Income Taxes (30% rate): $134,000 x 30% = $40,200
- Net Income: Income Before Taxes - Income Taxes
= $134,000 - $40,200 = $93,800
The condensed forecasted income statement for Plan 1 would show:
Sales: $560,000
Total Fixed Costs: $300,000
Total Variable Costs and Expenses: $266,000
Income Before Taxes: -$6,000
Income Taxes (30% rate): -$1,800
Net Income: -$4,200
The condensed forecasted income statement for Plan 2 would show:
Sales: $700,000
Total Fixed Costs: $300,000
Total Variable Costs and Expenses: $266,000
Income Before Taxes: $134,000
Income Taxes (30% rate): $40,200
Net Income: $93,800