CVP Analysis and Cost Structure (Service Company). Conway Electrical Services pr
ID: 2417466 • Letter: C
Question
CVP Analysis and Cost Structure (Service Company). Conway Electrical Services provides services to two types of clients: residential and commercial. The company's contribution margin income statement for the year is shown (this is the base case). Fixed costs are known in total, but Conway does not allocate fixed costs to each department Find the break-even point in sales dollars. What is the margin of safety in sales dollars? What amount of sales dollars is required to earn an annual profit of $750,000? Refer to the base case shown previously. What would the operating profit be if the Commercial variable costs are 20 percent higher than originally anticipated? How does this increase in Commercial variable costs impact the operating leverage of the company?Explanation / Answer
a.
The break even point in sales dollars is calculated by dividing fixed cost with the contribution margin ratio. contribution margin ratio is the percentage of contribution margin on sales in dollars.
b.
The excess of total sales over break even sales in dollars is margin of safety in dollars calculated as under:
Total sales in dollars =$1,500,000
Break even sales in dollars=$800,000
Margin of safety in dollars=$700,000
c.
To earn a profit of $750,000 the company should have sales dollars of $1,800,000 calcualted as under:
Sales in dollars=(Fixed cost + Estimated profit)/contribution margin ratio
=($600,000+$750,000)/0.75
=$1,800,000
d.
The operating profit if commercial variable cost increase by 20%, would be as under:
Variable cost of commercial after increase by 20% would be =$275,000(1+0.20)
=$330,000
The operating profit of the commercial after increase in variable cost would be as under:
d.
The degree of operating leverage will increase by 13% if the variable cost of commercial increase by 20%, calculated as under:
Particulars Residential Commercial Total Sales $ 600,000 $ 900,000 $ 1,500,000 Less: $ - Variable cost $ (100,000) $ (275,000) $ (375,000) Contribution margin $ 500,000 $ 625,000 $ 1,125,000 Contribution margin ratio is calculated as under: Particulars Residential Commercial Contribution margin $ 500,000 $ 625,000 $ 1,125,000 Sales $ 600,000 $ 900,000 $ 1,500,000 Contribution margin ratio (Contr.margin/sales) 83.33% 69.44% 75.00% The calculation of break even point in sales dollars: Fixed cost $ 600,000 Contribution margin ratio 75.00% Break even sales Fixed cost/contribution margin ratio $600,000/0.9423