Last month when Holiday Creations, Inc., sold 41,000 units, total sales were $293,000, total variable expenses were $237,330, and fixed expenses were $35,800. Required: 1. What is the company’s contribution margin (CM) ratio? 2. What is the estimated change in the company’s net operating income if it can increase total sales by $2,200?

Explanation:

Given that:

=> Net income:Total sales - variable expenses - fixed expenses

= $293,000 - $237,330 - $35,800

= $19,870

=> contribution margin: Total sales - variable expenses

= $293,000 - $237,330

= $55,700

1. So the company’s contribution margin ratio (CM):

CM = contribution margin / sales revenue = 55,700 / 293,000= 0.19

This means, for every dollar of sale, the company has $0.10 of contribution margin

2. Income if sales increase

Sales x CMR = Operating Income

2,200 x 00.19 = 418

So the estimated change in the company’s net operating income is $418 increase

1. 0.19

2. $418

Explanation:

The operating income is the difference between the revenue and the total cost. The total cost is the sum of the fixed and variable costs.

Both revenue and variable cost are dependent on the level of activity of the business and the difference between the two gives the contribution margin. Contribution margin ration is the ratio of contribution margin to sales.

Contribution margin = $293,000 - $237,330

= $55,670

Contribution margin ratio = $55,670/$293,000

= 0.19

Sale per unit = $293,000/41,000

= $7.15

if sales increases by $2,200 then additional units sold

= $2200/$7.15

= 308 units

Variable cost per unit = $237,330/41,000

= $5.79

with the increase, additional variable cost

= $5.79 × 308 (please note that intermediary values are used in further computation without rounding off)

= $1,782

With all other costs remaining fixed, the estimated change in the company’s net operating income if it can increase total sales by $2,200

= $2,200 - $1,782

= $418

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