Northwood Company manufactures basketballs. The company has aball that sells for $25. At present, the ball is manufactured in asmall plant that relies heavily on direct labor workers. Thus,variable expenses are high, totaling $15.00 per ball, of which 60%is direct labor cost.
Last year, the company sold 48,000 of these balls, with thefollowing results:
| |
| Sales (48,000 balls) | $ | 1,200,000 |
| Variable expenses | | 720,000 |
| Contribution margin | | 480,000 |
| Fixed expenses | | 319,000 |
| Net operating income | $ | 161,000 |
|
Required:
1. Compute (a) last year's CM ratio and the break-even point inballs, and (b) the degree of operating leverage at last year’ssales level.
2. Due to an increase in labor rates, the company estimates thatnext year's variable expenses will increase by $3.00 per ball. Ifthis change takes place and the selling price per ball remainsconstant at $25.00, what will be next year's CM ratio and thebreak-even point in balls?
3. Refer to the data in (2) above. If the expected change invariable expenses takes place, how many balls will have to be soldnext year to earn the same net operating income, $161,000, as lastyear?
4. Refer again to the data in (2) above. The president feelsthat the company must raise the selling price of its basketballs.If Northwood Company wants to maintain the same CM ratio as lastyear (as computed in requirement 1a), what selling price per ballmust it charge next year to cover the increased labor costs?
5. Refer to the original data. The company is discussing theconstruction of a new, automated manufacturing plant. The new plantwould slash variable expenses per ball by 40.00%, but it wouldcause fixed expenses per year to double. If the new plant is built,what would be the company’s new CM ratio and new break-even pointin balls?
6. Refer to the data in (5) above.
a. If the new plant is built, how many balls will have to besold next year to earn the same net operating income, $161,000, aslast year?
b. Assume the new plant is built and that next year the companymanufactures and sells 48,000 balls (the same number as sold lastyear). Prepare a contribution format income statement and Computethe degree of operating leverage.
