Chapter 07

Cost-Volume-Profit Analysis
 

True / False Questions

 

1. The break-even point is that level of activity where total revenue equals total cost. 
 
True    False
 
2. The contribution-margin ratio is calculated as unit contribution margin divided by the selling price per unit. 
 
True    False
 
3. The difference between budgeted sales revenue and break-even sales revenue is the operating leverage. 
 
True    False
 
4. Cost-volume-profit analysis is based on certain general assumptions. One of these assumptions is that
product prices will remain constant as volume varies within the relevant range. 
 
True    False
 
5. The extent to which an organization uses fixed costs in its cost structure is measured by financial leverage. 
 
True    False
 
 

Multiple Choice Questions

 

6. CVP analysis can be used to study the effect of: 

 

A. changes in selling prices on a company's profitability.

B. changes in variable costs on a company's profitability.
C.  changes in fixed costs on a company's profitability.
D. changes in product sales mix on a company's profitability.
E.  All of the other answers are correct.
 

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7. The break-even point is that level of activity where: 
 

A. total revenue equals total cost.

B. variable cost equals fixed cost.
C.  total contribution margin equals the sum of variable cost plus fixed cost.
D. sales revenue equals total variable cost.
E.  profit is greater than zero.
 
8. The break-even point is that level of activity where: 
 

A. variable cost equals fixed cost.

B. contribution margin equals fixed cost.
C.  total contribution margin equals the sum of variable cost plus fixed cost.
D. sales revenue equals total variable cost.
E.  sales revenue equals fixed cost.
 
9. The unit contribution margin is calculated as the difference between: 
 

A. selling price and fixed cost per unit.

B. selling price and variable cost per unit.
C.  selling price and product cost per unit.
D. fixed cost per unit and variable cost per unit.
E.  fixed cost per unit and product cost per unit.
 
10. Which of the following would produce the largest increase in the contribution margin per unit? 
 

A. A 7% increase in selling price.

B. A 15% decrease in selling price.
C.  A 14% increase in variable cost.
D. A 17% decrease in fixed cost.
E.  A 23% increase in the number of units sold.
 

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11. Which of the following occurs if a company was able to reduce its variable cost per unit?

    
 

A. Choice A.
B. Choice B.
C.  Choice C.
D. Choice D.
E.  Choice E.
 
12. Which of the following would occurs if a company increases its variable cost per unit?

    
 

A. Choice A
B. Choice B
C.  Choice C
D. Choice D
E.  Choice E
 
13. Which of the following occurs if a company experiences an increase in its fixed costs? 
 

A. Net income would increase.

B. The break-even point would increase.
C.  The contribution margin would increase.
D. The contribution margin would decrease.
E.  More than one of the other answers would occur.
 

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14. Which of the following occurs if a company experiences a decrease in its fixed costs? 
 

A. Income would decrease.

B. The break-even point would decrease.
C.  The contribution margin would increase.
D. The contribution margin would decrease.
E.  More than one of the other answers would occur.
 
15. Assuming no change in sales volume, an increase in company's per-unit contribution margin would: 
 

A. increase income.
B. decrease income.
C.  have no effect on income.
D. increase fixed costs.
E.  decrease fixed costs.
 
16. A company that desires to lower its break-even point should strive to: 
 

A. decrease selling prices.

B. reduce variable costs.
C.  increase fixed costs.
D. sell more units.
E.  achieve more than one of the other answers listed.
 
17. A company has fixed costs of $900 and a per-unit contribution margin of $3. Which of the following
statements is true? 
 

A. Each unit "contributes" $3 toward covering the fixed costs of $900.

B. The situation described is not possible and there must be an error.
C.  Once the break-even point is reached; the company will increase income at the rate of $3 per unit.
D. The firm will definitely lose money in this situation.
E.  Each unit "contributes" $3 toward covering the fixed costs of $900 and once the break-even point is
reached, the company will increase income at the rate of $3 per unit.
 
18. Sanderson sells a single product for $50 that has a variable cost of $30. Fixed costs amount to $5 per unit
when anticipated sales targets are met. If the company sells one unit in excess of its break-even volume,
profit will be: 
 

A. $15.
B. $20.
C.  $50.
D. an amount that cannot be derived based on the information presented.
E.  an amount other than $15, $20, or $50 and one that can be derived based on the information presented.
 

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19. At a volume of 20,000 units, Dries reported sales revenues of $1,000,000, variable costs of $300,000, and
fixed costs of $260,000. The company's contribution margin per unit is: 
 

A. $22.
B. $28.
C.  $35.
D. $37.
E.  None of the other answers is correct.
 
20. At a volume of 20,000 units, Dries reported sales revenues of $1,000,000, variable costs of $300,000, and
fixed costs of $260,000. The company's break-even point in units is: 
 

A. 7,027 (rounded).
B. 8,667 (rounded).
C.  9,286 (rounded).
D. 7,429 (rounded).
E.  None of the other answers is correct.
 
21. A recent income statement of Black Corporation reported the following data:

   

If these data are based on the sale of 20,000 units, the contribution margin per unit would be: 
 

A. $40.
B. $150.
C.  $290.
D. $360.
E.  None of the other answers is correct.
 

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22. A recent income statement of Black Corporation reported the following data:

   

If these data are based on the sale of 20,000 units, the break-even point would be: 
 

A. 9,565 units (rounded).

B. 11,000 units (rounded).
C.  7,586 units (rounded).
D. 14,667 units (rounded).
E.  None of the other answers is correct.
 
23. A recent income statement of Suni Corporation reported the following data:

   

If these data are based on the sale of 20,000 units, the break-even point would be: 
 

A. 7,500 units.
B. 11,628 units.
C.  12,500 units.
D. 33,333 units.
E.  None of the other answers is correct.
 
24. A recent income statement of Yang Corporation reported the following data:

   

If these data are based on the sale of 5,000 units, the break-even sales would be: 
 

A. $2,000,000.
B. $2,206,000.
C.  $2,500,000.
D. $10,000,000.
E.  None of the other answers is correct.
 

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25. Lawson, Inc. sells a single product for $12. Variable costs are $8 per unit and fixed costs total $360,000 at a
volume level of 60,000 units. Assuming that fixed costs do not change, Lawson's break-even point would
be: 
 

A. 30,000 units.
B. 45,000 units.
C.  90,000 units.
D. negative because the company loses $2 on every unit sold.
E.  a positive amount other than the specific amounts given.
 
26. Grey, Inc. sells a single product for $20. Variable costs are $8 per unit and fixed costs total $120,000 at a
volume level of 5,000 units. Assuming that fixed costs do not change, Green's break-even sales would be: 
 

A. $160,000.
B. $200,000.
C.  $300,000.
D. $480,000.
E.  None of the other answers is correct.
 
27. Orion recently reported sales revenues of $800,000, a total contribution margin of $300,000, and fixed costs
of $180,000. If sales volume amounted to 10,000 units, the company's variable cost per unit must have
been: 
 

A. $12.
B. $32.
C.  $50.
D. $92.
E.  None of the other answers is correct.
 
28. Strayer has a break-even point of 120,000 units. If the firm's sole product sells for $40 and fixed costs total
$480,000, the variable cost per unit must be: 
 

A. $4.
B. $36.
C.  $44.
D. an amount that cannot be derived based on the information presented.
E.  an amount other than $4, $36 or $44, but one that can be derived based on the information presented.
 

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29. Ribco Co. makes and sells only one product. The unit contribution margin is $6 and the break-even point in
unit sales is 24,000. The company's fixed costs are: 
 

A. $4,000.
B. $14,400.
C.  $40,000.
D. $144,000.
E.  None of the other answers is correct.
 
30. The contribution-margin ratio is: 
 

A. the difference between the selling price and the variable cost per unit.
B. fixed cost per unit divided by variable cost per unit.
C.  variable cost per unit divided by the selling price.
D. unit contribution margin divided by the selling price.
E.  unit contribution margin divided by fixed cost per unit.
 
31. At a volume level of 500,000 units, Sullivan reported the following information:

   

The company's contribution-margin ratio is closest to: 

 

A. 0.33.
B. 0.40.
C.  0.60.
D. 0.67.
E.  None of the other answers is correct.
 
32. Which of the following expressions can be used to calculate break-even sales revenue with the contribution-
margin ratio (CMR)? 
 

A. CMR ÷ fixed costs.

B. CMR × fixed costs.
C.  Fixed costs ÷ CMR.
D. (Fixed costs + variable costs) × CMR.
E.  (Sales revenue - variable costs) ÷ CMR.
 

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33.

   

Refer to the figure above. Line A is the: 

 

A. total revenue line.

B. fixed cost line.
C.  variable cost line.
D. total cost line.
E.  profit line.
 

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34.

   

Refer to the figure above. Line C represents the level of: 

 

A. fixed cost.
B. variable cost.
C.  semivariable cost.
D. total cost.
E.  mixed cost.
 

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35.

   

Refer to the figure above. The slope of line A is equal to the: 

 

A. fixed cost per unit.

B. selling price per unit.
C.  profit per unit.
D. variable cost per unit.
E.  unit contribution margin.
 

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36.

   

Refer to the figure above. The slope of line B is equal to the: 

 

A. fixed cost per unit.

B. selling price per unit.
C.  variable cost per unit.
D. profit per unit.
E.  unit contribution margin.
 

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37.

   

Refer to the figure above. The vertical distance between the total cost line and the total revenue line
represents: 
 

A. fixed cost.
B. variable cost.
C.  profit or loss at that volume.
D. semivariable cost.
E.  the safety margin.
 

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38.

   

Refer to the figure above. Assume that the company whose cost structure is depicted in the figure expects to
produce a loss for the upcoming period. The loss would be shown on the graph: 
 

A. by the area immediately above the break-even point.

B. by the area immediately below the total cost line.
C.  by the area diagonally to the right of the break-even point.
D. by the area diagonally to the left of the break-even point.
E.  None of the other answers is correct.
 

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39.

   

Refer to the figure above. At a given sales volume, the vertical distance between the fixed cost line and the
total cost line represents: 
 

A. fixed cost.
B. variable cost.
C.  profit or loss at that volume.
D. semivariable cost.
E.  the safety margin.
 

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40.

   

Refer to the figure above. Assume that the company whose cost structure is depicted in the figure expects to
produce a profit for the upcoming accounting period. The profit would be shown on the graph by the letter: 
 

A. D.
B. E.
C.  F.
D. G.
E.  H.
 

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41.

   

Refer to the figure above. Line A is the: 

 

A. fixed cost line.

B. variable cost line.
C.  total cost line.
D. total revenue line.
E.  profit line.
 

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42.

   

Refer to the figure above. The triangular area between the horizontal axis and Line A, to the right of 4,000,
represents: 
 

A. fixed cost.
B. variable cost.
C.  profit.
D. loss.
E.  sales revenue.
 

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43.

   

Refer to the figure above. The triangular area between the horizontal axis and Line A, to the left of 4,000,
represents: 
 

A. fixed cost.
B. variable cost.
C.  profit.
D. loss.
E.  sales revenue.
 
44. A recent income statement of Dragonwood Corporation reported the following data:

   

If the company desired to earn a target profit of $1,270,000, it would have to sell: 
 

A. 5,778 units.
B. 8,600 units.
C.  10,160 units.
D. 11,908 units.
E.  None of the other answers is correct.
 

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45. Yellow Dot, Inc. sells a single product for $10. Variable costs are $4 per unit and fixed costs total $120,000
at a volume level of 10,000 units. What dollar sales level would Yellow Dot have to achieve to earn a target
profit of $240,000? 
 

A. $400,000.
B. $500,000.
C.  $600,000.
D. $750,000.
E.  $900,000.
 
46. Narchie sells a single product for $50. Variable costs are 60% of the selling price, and the company has
fixed costs that amount to $400,000. Current sales total 16,000 units.

Narchie: 
 

A. will break-even by selling 8,000 units.

B. will break-even by selling 13,333 units.
C.  will break-even by selling 20,000 units.
D. will break-even by selling 1,000,000 units.
E.  cannot break-even because it loses money on every unit sold.
 
47. Narchie sells a single product for $50. Variable costs are 60% of the selling price, and the company has
fixed costs that amount to $400,000. Current sales total 16,000 units.

Each unit that Narchie sells will: 

 

A. increase profit by $20.

B. increase profit by $30.
C.  increase profit by $50.
D. increase profit by some other amount.
E.  decrease profit by $5.
 
48. Narchie sells a single product for $50. Variable costs are 60% of the selling price, and the company has
fixed costs that amount to $400,000. Current sales total 16,000 units.

In order to produce a target profit of $22,000, Narchie's dollar sales must total: 
 

A. $8,440.
B. $21,100.
C.  $1,000,000.
D. $1,055,000.
E.  None of the other answers is correct.
 

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49. Narchie sells a single product for $50. Variable costs are 60% of the selling price, and the company has
fixed costs that amount to $400,000. Current sales total 16,000 units.

If Narchie sells 24,000 units, its safety margin will be: 

 

A. $200,000.
B. $400,000.
C.  $1,000,000.
D. $1,200,000.
E.  None of the other answers is correct.
 
50. The difference between budgeted sales revenue and break-even sales revenue is the: 
 

A. contribution margin.
B. contribution-margin ratio.
C.  safety margin.
D. target net profit.
E.  operating leverage.
 
51. Maxine's budget for the upcoming year revealed the following figures:

   

If the company's break-even sales total $750,000, Maxine's safety margin would be: 
 

A. $(90,000).
B. $90,000.
C.  $246,000.
D. $336,000.
E.  $696,000.
 
52. Brooklyn sells a single product to wholesalers. The company's budget for the upcoming year revealed
anticipated unit sales of 31,600, a selling price of $20, variable cost per unit of $8, and total fixed costs of
$360,000. Brooklyn's safety margin in units is: 
 

A. (13,400).
B. 0.
C.  1,600.
D. 13,600.
E.  None of the other answers is correct.
 

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53. Brooklyn sells a single product to wholesalers. The company's budget for the upcoming year revealed
anticipated unit sales of 31,600, a selling price of $20, variable cost per unit of $8, and total fixed costs of
$360,000. If Brooklyn's unit sales are 200 units less than anticipated, its breakeven point will: 
 

A. increase by $12 per unit sold.

B. decrease by $12 per unit sold.
C.  increase by $8 per unit sold.
D. decrease by $8 per unit sold.
E.  not change.
 
54. Brooklyn sells a single product to wholesalers. The company's budget for the upcoming year revealed
anticipated unit sales of 31,600, a selling price of $20, variable cost per unit of $8, and total fixed costs of
$360,000. If Brooklyn's unit sales are 300 units more than anticipated, its break-even point will: 
 

A. increase by $12 per unit sold.

B. decrease by $12 per unit sold.
C.  increase by $8 per unit sold.
D. decrease by $8 per unit sold.
E.  not change.
 
55. If a company desires to increase its safety margin, it should: 
 

A. increase fixed costs.

B. decrease the contribution margin.
C.  decrease selling prices, assuming the price change will have no effect on demand.
D. stimulate sales volume.
E.  attempt to raise the break-even point.
 
56. Danielle sells a single product at $20 per unit. The firm's most recent income statement revealed unit sales
of 100,000, variable costs of $800,000, and fixed costs of $400,000. If a $4 drop in selling price will boost
unit sales volume by 20%, the company will experience: 
 

A. no change in profit because a 20% drop in sales price is balanced by a 20% increase in volume.
B. an $80,000 drop in profit.
C.  a $240,000 drop in profit.
D. a $400,000 drop in profit.
E.  None of the other answers is correct.
 

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57. Grime-X is studying the profitability of a change in operation and has gathered the following information:

   

Should Grime-X make the change? 

 

A. Yes, the company will be better off by $6,000.

B. No, because sales will drop by 3,000 units.
C.  No, because the company will be worse off by $4,000.
D. No, because the company will be worse off by $22,000.
E.  It is impossible to judge because additional information is needed.
 
58. Cleason sells a single product at $14 per unit. The firm's most recent income statement revealed unit sales of
80,000, variable costs of $800,000, and fixed costs of $560,000. Management believes that a $3 drop in
selling price will boost unit sales volume by 20%. Which of the following correctly depicts how these two
changes will affect the company's break-even point?

    
 

A. Choice A
B. Choice B
C.  Choice C
D. Choice D
E.  Choice E
 

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59. All other things being equal, a company that sells multiple products should attempt to structure its sales mix
so the greatest portion of the mix is composed of those products with the highest: 
 

A. selling price.
B. variable cost.
C.  contribution margin.
D. fixed cost.
E.  gross margin.
 
60. O'Dale sells three products: R, S, and T. Budgeted information for the upcoming accounting period follows.

   

The company's weighted-average unit contribution margin is: 

 

A. $3.00.
B. $3.55.
C.  $4.00.
D. $19.35.
E.  None of the other answers is correct.
 
61. Wellcom Corporation has the following sales mix for its three products: A, 20%; B, 35%; and C, 45%.
Fixed costs total $400,000 and the weighted-average contribution margin is $100. How many units of
product A must be sold to break-even? 
 

A. 800.
B. 4,000.
C.  20,000.
D. None of the other answers is correct.
E.  Cannot be determined based on the information presented.
 

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62. Jamal & Co. makes and sells two types of shoes, Plain and Fancy. Data concerning these products are as
follows:

   

Sixty percent of the unit sales are Plain, and annual fixed expenses are $45,000.
The weighted-average unit contribution margin is: 
 

A. $4.80.
B. $9.00.
C.  $9.25.
D. $17.00.
E.  None of the other answers is correct.
 
63. Jamal & Co. makes and sells two types of shoes, Plain and Fancy. Data concerning these products are as
follows:

   

Sixty percent of the unit sales are Plain, and annual fixed expenses are $45,000.
Assuming that the sales mix remains constant, the total number of units that Jamal must sell to break even
is: 
 

A. 2,432.
B. 2,647.
C.  4,737.
D. 5,000.
E.  None of the other answers is correct.
 

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64. Jamal & Co. makes and sells two types of shoes, Plain and Fancy. Data concerning these products are as
follows:

   

Sixty percent of the unit sales are Plain, and annual fixed expenses are $45,000.
Assuming that the sales mix remains constant, the number of units of Plain that Jamal must sell to break
even is: 
 

A. 2,000.
B. 3,000.
C.  3,375.
D. 5,000.
E.  5,625.
 
65. Jamal & Co. makes and sells two types of shoes, Plain and Fancy. Data concerning these products are as
follows:

   

Sixty percent of the unit sales are Plain, and annual fixed expenses are $45,000.
Assuming that the sales mix remains constant, the number of units of Fancy that Jamal must sell to break
even is: 
 

A. 2,000.
B. 3,000.
C.  3,375.
D. 5,000.
E.  5,625.
 
66. Which of the following underlying assumptions form(s) the basis for cost-volume-profit analysis? 
 

A. Revenues and costs behave in a linear manner.

B. Costs can be categorized as variable, fixed, or semivariable.
C.  Worker efficiency and productivity remain constant.
D. In multiproduct organizations, the sales mix remains constant.
E.  All the other answers are assumptions that underlie cost-volume-profit analysis.
 

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67. Cost-volume-profit analysis is based on certain general assumptions. Which of the following is not one of
these assumptions? 
 

A. Product prices will remain constant as volume varies within the relevant range.
B. Costs can be categorized as fixed, variable, or semivariable.
C.  The efficiency and productivity of the production process and workers will change to reflect
manufacturing advances.
D. Total fixed costs remain constant as activity changes.
E.  Unit variable cost remains constant as activity changes.
 
68. The assumptions on which cost-volume-profit analysis is based appear to be most valid for businesses: 
 

A. over the short run.

B. over the long run.
C.  over both the short run and the long run.
D. in periods of sustained profits.
E.  in periods of increasing sales.
 
69. The contribution income statement differs from the traditional income statement in which of the following
ways? 
 

A. The traditional income statement separates costs into fixed and variable components.
B. The traditional income statement subtracts all variable costs from sales to obtain the contribution margin.
C.  Cost-volume-profit relationships can be analyzed more easily from the contribution income statement.
D. The effect of sales volume changes on profit is readily apparent on the traditional income statement.
E.  The contribution income statement separates costs into product and period categories.
 
70. Which of the following does not typically appear on a contribution income statement? 
 

A. Net income.
B. Gross margin.
C.  Contribution margin.
D. Total variable costs.
E.  Total fixed costs.
 
71. Which of the following does not typically appear on an income statement prepared by using a traditional
format? 
 

A. Cost of goods sold.

B. Contribution margin.
C.  Gross margin.
D. Selling expenses.
E.  Administrative expenses.
 

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72. The extent to which an organization uses fixed costs in its cost structure is measured by: 
 

A. financial leverage.
B. operating leverage.
C.  fixed cost leverage.
D. contribution leverage.
E.  efficiency leverage.
 
73. A manager who wants to determine the percentage impact on income of a given percentage change in sales
would multiply the percentage increase/decrease in sales revenue by the: 
 

A. contribution margin.
B. gross margin.
C.  operating leverage factor.
D. safety margin.
E.  contribution-margin ratio.
 
74. Miller Company has an operating leverage factor of 5. Which of the following statements is true?

Thus, an 8% change in ______ should result in a 40% change in _____. The respective amounts that change
are: 
 

A. An 8% change in income should result in a 40% change in sales revenue.

B. An 8% change in sales revenue should result in a 40% change in income.
C.  An 8% change in variable costs should result in a 40% change in contribution margin.
D. An 8% change in fixed costs should result in a 40% change in income.
E.  An 8% change in variable costs should result in a 40% change in break-even sales.
 
75. Which of the following calculations can be used to measure a company's degree of operating leverage? 
 

A. Contribution margin ÷ sales.

B. Contribution margin ÷ income.
C.  Sales ÷ contribution margin.
D. Sales ÷ income.
E.  Sales ÷ fixed costs.
 

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76. You are analyzing Becker Corporation and Newton Corporation and have concluded that Becker has a
higher operating leverage factor than Newton. Which one of the following choices correctly depicts (1) the
relative use of fixed costs (as opposed to variable costs) for the two companies and (2) the percentage
change in income caused by a change in sales?

    
 

A. Choice A
B. Choice B
C.  Choice C
D. Choice D
E.  Choice E
 
77. The following information relates to Dazie Company:

   

Dazie's operating leverage factor is closest to: 

 

A. 0.067.
B. 0.167.
C.  0.400.
D. 2.500.
E.  6.000.
 

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78. The following information relates to Paternus Company:

   

If a manager at Paternus desired to determine the percentage impact on income of a given percentage change
in sales, the manager would multiply the percentage increase/decrease in sales revenue by: 
 

A. 0.25.
B. 0.40.
C.  2.50.
D. 4.00.
E.  10.00.
 
79. Edmonco Company produced and sold 45,000 units of a single product last year, with the following results:

   

Edmonco's operating leverage factor was: 

 

A. 4.
B. 5.
C.  6.
D. 7.
E.  8.
 

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80. Edmonco Company produced and sold 45,000 units of a single product last year, with the following results:

   

If Edmonco's sales revenues increase 15%, what will be the percentage increase in income before income
taxes? 
 

A. 15%.
B. 45%.
C.  60%.
D. 75%.
E.  None of the other answers is correct.
 
81. When advanced manufacturing systems are installed, what effect does such installation usually have on
fixed costs and the break-even point?

    
 

A. Choice A
B. Choice B
C.  Choice C
D. Choice D
E.  Choice E
 

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82. Which of the following statements is (are) true regarding a company that has implemented flexible
manufacturing systems and activity-based costing?

I. The company has erred, as these two practices used in conjunction with one another will severely limit the
firm's ability to analyze costs over the relevant range.
II. Costs formerly viewed as fixed under traditional-costing systems may now be considered variable with
respect to changes in cost drivers such as number of setups, number of material moves, and so forth.
III. As compared with the results obtained under a traditional-costing system, the concept of break-even
analysis loses meaning. 
 

A. I only.
B. II only.
C.  III
only.
D. I and II.
E.  II and III.
 
83. A company, subject to a 40% tax rate, desires to earn $500,000 of after-tax income. How much should the
firm add to fixed costs when figuring the sales revenues necessary to produce this income level? 
 

A. $200,000.
B. $300,000.
C.  $500,000.
D. $833,333.
E.  $1,250,000.
 
84. Barrey, Inc. is subject to a 40% income tax rate. The following data pertain to the period just ended when
the company produced and sold 45,000 units:

   

How many units must Barrey sell to earn an after-tax profit of $180,000? 
 

A. 42,000.
B. 45,000.
C.  51,000.
D. 61,000.
E.  None of the other answers is correct.
 

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85. Barrey, Inc. is subject to a 40% income tax rate. The following data pertain to the period just ended when
the company produced and sold 45,000 units:

   

How many units must Barrey sell to earn an after-tax profit of $225,000? 
 

A. 67,250.
B. 62,250.
C.  61,000.
D. 51,000.
E.  None of the other answers is correct.
 
 

Essay Questions
 

86. Vince's Pizza delivers pizzas to dormitories and apartments near a major state university. The company's
annual fixed costs are $48,000. The sales price averages $9, and it costs the firm $3 to make and deliver
each pizza.

Required:

A. How many pizzas must Vince's sell to break even?

B. How many pizzas must the company sell to earn a target profit of $54,000?
C. If budgeted sales total 9,900 pizzas, how much is the company's safety margin in dollars?
D. Vince's assistant manager, an accounting major, has suggested that the firm should try to increase the
contribution margin per pizza. Explain the meaning of "contribution margin" in layman's terms. 
 

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87. Seventh Heaven takes tourists on helicopter tours of Hawaii. Each tourist buys a $150 ticket; the variable
costs average $60 per person. Seventh Heaven has annual fixed costs of $702,000.

Required:

A. Compute the average number of tours the company must conduct per month to break even.
B. Compute the average sales revenue needed per month to produce a target average profit of $36,000 per
month. See below (answer to "B").
C. Calculate the contribution margin ratio.
D. Determine whether the actions that follow will increase, decrease, or not affect the company's break-even
point.

1. A decrease in tour prices.

2. The termination of a salaried clerk (no replacement is planned).
3. A decrease in the number of tours sold. 
 

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88. The information that follows was obtained from the accounting records of Gladstone Manufacturing during
a period when the company sold 100,000 units.

   

Required:

A. Compute the company's per-unit contribution margin and break-even point in units.
B. How many units must Gladstone sell to produce a target profit of $550,400?
C. Assume that Gladstone was able to reduce the variable cost per unit by $4. What selling price could
management charge if it desired to maintain the current break-even point?
D. Depreciation charges of $640,000 are included in the firm's fixed costs of $6,016,000. If these charges
were to increase by 10%, what effect, if any, would this cost increase have on the company's contribution
margin? 
 

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89. Thomlinson Company is considering the development of two products: no. 65 or no. 66. Manufacturing cost
information follows.

   

Regardless of which product is introduced, the anticipated selling price will be $50 and the company will
pay a 10% sales commission on gross dollar sales. Thomlinson will not carry an inventory of these items.

Required:

A. What is the break-even sales volume (in dollars) on product no. 66?
B. Which of the two products will be more profitable at a sales level of 25,000 units?
C. At what unit-volume level will the profit/loss on product no. 65 equal the profit/loss on product no. 66? 
 

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90. The Braggs & Strutting' Company manufactures an engine for carpet cleaners called the "Snooper."
Budgeted cost and revenue data for the "Snooper" are given below, based on sales of 40,000 units.

   

Cost of goods sold consists of $810,000 of variable costs and $310,000 of fixed costs. Operating expenses
consist of $30,000 of variable costs and $70,000 of fixed costs.

Required:

A. Calculate the break-even point in units and sales dollars.

B. Calculate the safety margin (in dollars).
C. Braggs & Struttin' received an order for 6,000 units at a price of $25.00. There will be no increase in
fixed costs, but variable costs will be reduced by $0.54 per unit because of cheaper packaging. Determine
the projected increase or decrease in profit from the order, assuming there is no opportunity costs. 
 

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91. Elmton recently sold 70,000 units, generating sales revenue of $4,900,000. The company's variable cost per
unit and total fixed cost amounted to $20 and $2,800,000, respectively. Management is in the process of
studying the dollar impact of various transactions and events, and desires answers to the following
independent cases:

Case no. 1: Management wants to lower the firm's break-even point to 52,000 units. If all other costs remain
constant, what must happen to fixed costs to achieve this objective?
Case no. 2: The company anticipates a $2 hike in the variable cost per unit. If all other costs remain constant
and management desires to maintain the firm's current break-even point, what must happen to Elmton's
selling price? If selling price remains constant, what must happen to the firm's total fixed costs?

Required:

A. Answer the two cases raised by management.

B. Determine the impact (increase, decrease, or no effect) of the following operating changes on the items
cited:

1. An increase in variable selling costs on income.

2. A decrease in direct material cost on the unit contribution margin.
3. A decrease in the number of units sold on the break-even point. 
 

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92. Hitchcock Company is studying the impact of the following:

1. An increase in sales price.

2. An increase in the variable cost per unit.
3. An increase in the number of units sold (note: each unit produces a $6 contribution margin).
4. A decrease in fixed costs.
5. A proposed change in the method of compensation for salespeople, away from commissions based on
gross sales dollars and toward higher monthly salaries.

Required:

Determine the impact of each of these operating changes on Hitchcock's per-unit contribution margin and
break-even point by completing the chart that follows. Your responses should be Increase (INC), Decrease
(DEC), No Effect (NE), or Insufficient Information to Judge (II). 
 

 
93. Goldstone Company is studying the impact of the following:

1. An increase in sales price on the break-even point.

2. A decrease in fixed costs on the contribution margin.
3. An increase in the contribution margin on the break-even point.
4. A decrease in the variable cost per unit on the sales volume needed to achieve Goldstone's $68,000 target
profit.
5. An increase in sales commissions on the contribution margin and the break-even point.
6. A decrease in anticipated advertising outlays on fixed cost and the break-even point.

Required:

Determine the impact of these operating changes (increase, decrease, no effect) on the item(s) noted. 
 

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94. Boyze Company manufactures and sells three products: Good, Better, and Best. Annual fixed costs are
$3,315,000, and data about the three products follow.

   

Required:

A. Determine the weighted-average unit contribution margin.

B. Determine the break-even volume in units for each product.
C. Determine the total number of units that must be sold to obtain a profit for the company of $234,000.
D. Assume that the sales mix for Good, Better, and Best is changed to 50%, 30%, and 20%, respectively.
Will the number of units required to break-even increase or decrease? Explain. Hint: Detailed calculations
are not needed to obtain the proper solution. 
 

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95. Alphabeta Corporation sells three products: J, K, and L. The following information was taken from a recent
budget:

   

Total fixed costs are anticipated to be $2,450,000.

Required:

A. Determine Alphabeta's sales mix.

B. Determine the weighted-average contribution margin.
C. Calculate the number of units of J, K, and L that must be sold to break even.
D. If Alphabeta desires to increase company profitability, should it attempt to increase or decrease the sales
of product K relative to those of J and L? Briefly explain. 
 

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96. Brice Publications, Inc. produces and sells business books. The results of the company's operations for the
year ended December 31, 20x1, are given below.

   

Required:

A. Prepare a traditional income statement for the company.

B. Prepare a contribution income statement for the company.
C. Which income statement (traditional or contribution) would an operating manager most likely use to
study changes in operating income that are caused by changes in sales? Why? 
 

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97. High Point Corporation reported sales revenues of $1,850,000 for the period just ended. Cost of goods sold,
selling expenses, and administrative expenses totaled $1,200,000, $280,000, and $170,000, respectively. A
detailed analysis of the latter three amounts revealed respective fixed cost components of $780,000,
$60,000, and $130,000.

Required:

A. Determine the amounts, if any, that High Point would report on a traditional income statement for (1)
gross margin, (2) contribution margin, and (3) income.
B. Determine the amounts, if any, that High Point would report on a contribution income statement for (1)
gross margin, (2) contribution margin, and (3) income.
C. Which of the two income statements (traditional or contribution) is more useful for studying a company's
cost-volume-profit relationships? 
 

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98. Cortez Enterprises is studying the addition of a new product that would have an expected selling price of
$180 and expected variable cost of $120. Anticipated demand is 9,000 units.

A new salesperson must be hired because the company's current sales force is working at capacity. Two
compensation plans are under consideration:
Plan 1: An annual salary of $38,000 plus 10% commission based on gross sales dollars
Plan 2: An annual salary of $180,000 and no commission

Required:

A. What is meant by the term "operating leverage"?

B. Calculate the contribution margin and income of the two plans at 9,000 units.
C. Compute the operating leverage factor of the two plans at 9,000 units. Which of the two plans is more
highly leveraged? Why?
D. Assume that a general economic downturn occurred during year no. 2, with product demand falling from
9,000 to 7,200 units. By using the operating leverage factors, determine and show which plan would
produce a larger percentage decrease in income. 
 

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99. Once upon a time, two brothers (Barry and Larry) dreamt about owning and operating companies in the
same line of business. Barry believed in maintaining a very large, highly efficient manual labor force; Larry,
on the other hand, favored automated-production processes. One business was located in Madison and the
other was located in Austin. Recent data follow.

   

Required:

A. Which of the two businesses, Madison or Austin, has the higher level of (1) variable cost and (2) higher
level of fixed cost? Explain how you determined your answer.
B. Determine the probable owner of the firm located in (1) Madison and (2) Austin. Briefly explain your
logic.
C. Compute the operating leverage factor for Madison and Austin.
D. Suppose that both Madison and Austin had the opportunity to increase sales by 10%. Which of the two
locations would experience a larger percentage change in net income? Why? 
 

 
100. Maddock Corporation's product no. H647 has a negative contribution margin. How can such a situation
arise? Should the company continue to stock and sell product no. H647? Explain. 
 

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101. Operating leverage is an important concept for many companies.

Required:

A. Define operating leverage.

B. Assume that a firm pays no income taxes and is planning to increase its selling price. If sales volume in
units does not change, what will be the effect on the operating leverage factor? Explain.
C. Assume that another firm that pays no income taxes is planning to increase total fixed manufacturing
costs and decrease variable manufacturing costs per unit. At the present volume of production, the total
manufacturing costs will be unchanged. What will this change do to the operating leverage factor? Explain. 
 

 
102. Many firms are moving toward flexible manufacturing systems and adopting the just-in-time (JIT)
philosophy.

Required:

A. How is cost behavior altered in the typical flexible manufacturing environment as compared to a
traditional manufacturing system? What is the impact on the break-even point? Explain.
B. One of the assumptions underlying cost-volume profit analysis is that sales volume and production
volume are equal. Stated another way, inventories are assumed to remain constant. Is this assumption likely
to be violated under an ongoing JIT philosophy? Explain. 
 

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 Chapter 07 Cost-Volume-Profit Analysis Answer Key
 
 

True / False Questions

 

1. The break-even point is that level of activity where total revenue equals total cost. 
 
TRUE
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
2. The contribution-margin ratio is calculated as unit contribution margin divided by the selling price per
unit. 
 
TRUE
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-02 Compute the contribution-margin ratio and use it to find the break-even point in sales dollars.
 
3. The difference between budgeted sales revenue and break-even sales revenue is the operating leverage. 
 
FALSE
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 
4. Cost-volume-profit analysis is based on certain general assumptions. One of these assumptions is that
product prices will remain constant as volume varies within the relevant range. 
 
TRUE
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy

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 Learning Objective: 07-06 List and discuss the key assumptions of CVP analysis.
 
5. The extent to which an organization uses fixed costs in its cost structure is measured by financial
leverage. 
 
FALSE
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-08 Explain the role of cost structure and operating leverage in CVP relationships.
 
 

Multiple Choice Questions

 

6. CVP analysis can be used to study the effect of: 

 

A.  changes in selling prices on a company's profitability.

B.  changes in variable costs on a company's profitability.
C.  changes in fixed costs on a company's profitability.
D.  changes in product sales mix on a company's profitability.
E.  All of the other answers are correct.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
7. The break-even point is that level of activity where: 
 

A.  total revenue equals total cost.

B.  variable cost equals fixed cost.
C.  total contribution margin equals the sum of variable cost plus fixed cost.
D.  sales revenue equals total variable cost.
E.  profit is greater than zero.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 

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8. The break-even point is that level of activity where: 
 

A.  variable cost equals fixed cost.

B.  contribution margin equals fixed cost.
C.  total contribution margin equals the sum of variable cost plus fixed cost.
D.  sales revenue equals total variable cost.
E.  sales revenue equals fixed cost.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
9. The unit contribution margin is calculated as the difference between: 
 

A.  selling price and fixed cost per unit.

B.  selling price and variable cost per unit.
C.  selling price and product cost per unit.
D.  fixed cost per unit and variable cost per unit.
E.  fixed cost per unit and product cost per unit.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
10. Which of the following would produce the largest increase in the contribution margin per unit? 
 

A.  A 7% increase in selling price.

B.  A 15% decrease in selling price.
C.  A 14% increase in variable cost.
D.  A 17% decrease in fixed cost.
E.  A 23% increase in the number of units sold.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 

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11. Which of the following occurs if a company was able to reduce its variable cost per unit?

    
 

A.  Choice A.
B.  Choice B.
C.  Choice C.
D.  Choice D.
E.  Choice E.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
12. Which of the following would occurs if a company increases its variable cost per unit?

    
 

A.  Choice A
B.  Choice B
C.  Choice C
D.  Choice D
E.  Choice E
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.

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13. Which of the following occurs if a company experiences an increase in its fixed costs? 
 

A.  Net income would increase.

B.  The break-even point would increase.
C.  The contribution margin would increase.
D.  The contribution margin would decrease.
E.  More than one of the other answers would occur.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
14. Which of the following occurs if a company experiences a decrease in its fixed costs? 
 

A.  Income would decrease.

B.  The break-even point would decrease.
C.  The contribution margin would increase.
D.  The contribution margin would decrease.
E.  More than one of the other answers would occur.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
15. Assuming no change in sales volume, an increase in company's per-unit contribution margin would: 
 

A.  increase income.

B.  decrease income.
C.  have no effect on income.
D.  increase fixed costs.
E.  decrease fixed costs.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 

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16. A company that desires to lower its break-even point should strive to: 
 

A.  decrease selling prices.

B.  reduce variable costs.
C.  increase fixed costs.
D.  sell more units.
E.  achieve more than one of the other answers listed.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 1 Easy
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
17. A company has fixed costs of $900 and a per-unit contribution margin of $3. Which of the following
statements is true? 
 

A.  Each unit "contributes" $3 toward covering the fixed costs of $900.
B.  The situation described is not possible and there must be an error.
C.  Once the break-even point is reached; the company will increase income at the rate of $3 per unit.
D.  The firm will definitely lose money in this situation.
E.  Each unit "contributes" $3 toward covering the fixed costs of $900 and once the break-even point is
reached, the company will increase income at the rate of $3 per unit.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
18. Sanderson sells a single product for $50 that has a variable cost of $30. Fixed costs amount to $5 per unit
when anticipated sales targets are met. If the company sells one unit in excess of its break-even volume,
profit will be: 
 

A.  $15.
B.  $20.
C.  $50.
D.  an amount that cannot be derived based on the information presented.
E.  an amount other than $15, $20, or $50 and one that can be derived based on the information
presented.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 

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19. At a volume of 20,000 units, Dries reported sales revenues of $1,000,000, variable costs of $300,000,
and fixed costs of $260,000. The company's contribution margin per unit is: 
 

A.  $22.
B.  $28.
C.  $35.
D.  $37.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
20. At a volume of 20,000 units, Dries reported sales revenues of $1,000,000, variable costs of $300,000,
and fixed costs of $260,000. The company's break-even point in units is: 
 

A.  7,027 (rounded).

B.  8,667 (rounded).
C.  9,286 (rounded).
D.  7,429 (rounded).
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
21. A recent income statement of Black Corporation reported the following data:

   

If these data are based on the sale of 20,000 units, the contribution margin per unit would be: 
 

A.  $40.
B.  $150.
C.  $290.
D.  $360.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking

7-53
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McGraw-Hill Education.
 AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
22. A recent income statement of Black Corporation reported the following data:

   

If these data are based on the sale of 20,000 units, the break-even point would be: 
 

A.  9,565 units (rounded).

B.  11,000 units (rounded).
C.  7,586 units (rounded).
D.  14,667 units (rounded).
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
23. A recent income statement of Suni Corporation reported the following data:

   

If these data are based on the sale of 20,000 units, the break-even point would be: 
 

A.  7,500 units.

B.  11,628 units.
C.  12,500 units.
D.  33,333 units.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 

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24. A recent income statement of Yang Corporation reported the following data:

   

If these data are based on the sale of 5,000 units, the break-even sales would be: 
 

A.  $2,000,000.
B.  $2,206,000.
C.  $2,500,000.
D.  $10,000,000.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
25. Lawson, Inc. sells a single product for $12. Variable costs are $8 per unit and fixed costs total $360,000
at a volume level of 60,000 units. Assuming that fixed costs do not change, Lawson's break-even point
would be: 
 

A.  30,000 units.

B.  45,000 units.
C.  90,000 units.
D.  negative because the company loses $2 on every unit sold.
E.  a positive amount other than the specific amounts given.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 

7-55
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26. Grey, Inc. sells a single product for $20. Variable costs are $8 per unit and fixed costs total $120,000 at a
volume level of 5,000 units. Assuming that fixed costs do not change, Green's break-even sales would
be: 
 

A.  $160,000.
B.  $200,000.
C.  $300,000.
D.  $480,000.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
27. Orion recently reported sales revenues of $800,000, a total contribution margin of $300,000, and fixed
costs of $180,000. If sales volume amounted to 10,000 units, the company's variable cost per unit must
have been: 
 

A.  $12.
B.  $32.
C.  $50.
D.  $92.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
28. Strayer has a break-even point of 120,000 units. If the firm's sole product sells for $40 and fixed costs
total $480,000, the variable cost per unit must be: 
 

A.  $4.
B.  $36.
C.  $44.
D.  an amount that cannot be derived based on the information presented.
E.  an amount other than $4, $36 or $44, but one that can be derived based on the information presented.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 

7-56
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29. Ribco Co. makes and sells only one product. The unit contribution margin is $6 and the break-even point
in unit sales is 24,000. The company's fixed costs are: 
 

A.  $4,000.
B.  $14,400.
C.  $40,000.
D.  $144,000.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
30. The contribution-margin ratio is: 
 

A.  the difference between the selling price and the variable cost per unit.
B.  fixed cost per unit divided by variable cost per unit.
C.  variable cost per unit divided by the selling price.
D.  unit contribution margin divided by the selling price.
E.  unit contribution margin divided by fixed cost per unit.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-02 Compute the contribution-margin ratio and use it to find the break-even point in sales dollars.
 
31. At a volume level of 500,000 units, Sullivan reported the following information:

   

The company's contribution-margin ratio is closest to: 

 

A.  0.33.
B.  0.40.
C.  0.60.
D.  0.67.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement

7-57
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McGraw-Hill Education.
 Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-02 Compute the contribution-margin ratio and use it to find the break-even point in sales dollars.
 
32. Which of the following expressions can be used to calculate break-even sales revenue with the
contribution-margin ratio (CMR)? 
 

A.  CMR ÷ fixed costs.

B.  CMR × fixed costs.
C.  Fixed costs ÷ CMR.
D.  (Fixed costs + variable costs) × CMR.
E.  (Sales revenue - variable costs) ÷ CMR.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-02 Compute the contribution-margin ratio and use it to find the break-even point in sales dollars.
 
33.

   

Refer to the figure above. Line A is the: 

 

A.  total revenue line.

B.  fixed cost line.
C.  variable cost line.
D.  total cost line.
E.  profit line.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research

7-58
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McGraw-Hill Education.
 Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-03 Prepare a cost-volume-profit (CVP) graph and explain how it is used.
 
34.

   

Refer to the figure above. Line C represents the level of: 

 

A.  fixed cost.

B.  variable cost.
C.  semivariable cost.
D.  total cost.
E.  mixed cost.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-03 Prepare a cost-volume-profit (CVP) graph and explain how it is used.
 

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35.

   

Refer to the figure above. The slope of line A is equal to the: 

 

A.  fixed cost per unit.

B.  selling price per unit.
C.  profit per unit.
D.  variable cost per unit.
E.  unit contribution margin.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-03 Prepare a cost-volume-profit (CVP) graph and explain how it is used.
 

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36.

   

Refer to the figure above. The slope of line B is equal to the: 

 

A.  fixed cost per unit.

B.  selling price per unit.
C.  variable cost per unit.
D.  profit per unit.
E.  unit contribution margin.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-03 Prepare a cost-volume-profit (CVP) graph and explain how it is used.
 

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37.

   

Refer to the figure above. The vertical distance between the total cost line and the total revenue line
represents: 
 

A.  fixed cost.

B.  variable cost.
C.  profit or loss at that volume.
D.  semivariable cost.
E.  the safety margin.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-03 Prepare a cost-volume-profit (CVP) graph and explain how it is used.
 

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38.

   

Refer to the figure above. Assume that the company whose cost structure is depicted in the figure
expects to produce a loss for the upcoming period. The loss would be shown on the graph: 
 

A.  by the area immediately above the break-even point.

B.  by the area immediately below the total cost line.
C.  by the area diagonally to the right of the break-even point.
D.  by the area diagonally to the left of the break-even point.
E.  None of the other answers is correct.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-03 Prepare a cost-volume-profit (CVP) graph and explain how it is used.
 

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McGraw-Hill Education.
39.

   

Refer to the figure above. At a given sales volume, the vertical distance between the fixed cost line and
the total cost line represents: 
 

A.  fixed cost.

B.  variable cost.
C.  profit or loss at that volume.
D.  semivariable cost.
E.  the safety margin.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-03 Prepare a cost-volume-profit (CVP) graph and explain how it is used.
 

7-64
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40.

   

Refer to the figure above. Assume that the company whose cost structure is depicted in the figure
expects to produce a profit for the upcoming accounting period. The profit would be shown on the graph
by the letter: 
 

A.  D.
B.  E.
C.  F.
D.  G.
E.  H.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-03 Prepare a cost-volume-profit (CVP) graph and explain how it is used.
 

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41.

   

Refer to the figure above. Line A is the: 

 

A.  fixed cost line.

B.  variable cost line.
C.  total cost line.
D.  total revenue line.
E.  profit line.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-03 Prepare a cost-volume-profit (CVP) graph and explain how it is used.
 

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42.

   

Refer to the figure above. The triangular area between the horizontal axis and Line A, to the right of
4,000, represents: 
 

A.  fixed cost.

B.  variable cost.
C.  profit.
D.  loss.
E.  sales revenue.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-03 Prepare a cost-volume-profit (CVP) graph and explain how it is used.
 

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43.

   

Refer to the figure above. The triangular area between the horizontal axis and Line A, to the left of
4,000, represents: 
 

A.  fixed cost.

B.  variable cost.
C.  profit.
D.  loss.
E.  sales revenue.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-03 Prepare a cost-volume-profit (CVP) graph and explain how it is used.
 

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44. A recent income statement of Dragonwood Corporation reported the following data:

   

If the company desired to earn a target profit of $1,270,000, it would have to sell: 
 

A.  5,778 units.

B.  8,600 units.
C.  10,160 units.
D.  11,908 units.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 
45. Yellow Dot, Inc. sells a single product for $10. Variable costs are $4 per unit and fixed costs total
$120,000 at a volume level of 10,000 units. What dollar sales level would Yellow Dot have to achieve to
earn a target profit of $240,000? 
 

A.  $400,000.
B.  $500,000.
C.  $600,000.
D.  $750,000.
E.  $900,000.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 

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46. Narchie sells a single product for $50. Variable costs are 60% of the selling price, and the company has
fixed costs that amount to $400,000. Current sales total 16,000 units.

Narchie: 
 

A.  will break-even by selling 8,000 units.

B.  will break-even by selling 13,333 units.
C.  will break-even by selling 20,000 units.
D.  will break-even by selling 1,000,000 units.
E.  cannot break-even because it loses money on every unit sold.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
47. Narchie sells a single product for $50. Variable costs are 60% of the selling price, and the company has
fixed costs that amount to $400,000. Current sales total 16,000 units.

Each unit that Narchie sells will: 

 

A.  increase profit by $20.

B.  increase profit by $30.
C.  increase profit by $50.
D.  increase profit by some other amount.
E.  decrease profit by $5.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
48. Narchie sells a single product for $50. Variable costs are 60% of the selling price, and the company has
fixed costs that amount to $400,000. Current sales total 16,000 units.

In order to produce a target profit of $22,000, Narchie's dollar sales must total: 
 

A.  $8,440.
B.  $21,100.
C.  $1,000,000.
D.  $1,055,000.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking

7-70
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McGraw-Hill Education.
 AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 
49. Narchie sells a single product for $50. Variable costs are 60% of the selling price, and the company has
fixed costs that amount to $400,000. Current sales total 16,000 units.

If Narchie sells 24,000 units, its safety margin will be: 

 

A.  $200,000.
B.  $400,000.
C.  $1,000,000.
D.  $1,200,000.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 
50. The difference between budgeted sales revenue and break-even sales revenue is the: 
 

A.  contribution margin.

B.  contribution-margin ratio.
C.  safety margin.
D.  target net profit.
E.  operating leverage.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 

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51. Maxine's budget for the upcoming year revealed the following figures:

   

If the company's break-even sales total $750,000, Maxine's safety margin would be: 
 

A.  $(90,000).
B.  $90,000.
C.  $246,000.
D.  $336,000.
E.  $696,000.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 
52. Brooklyn sells a single product to wholesalers. The company's budget for the upcoming year revealed
anticipated unit sales of 31,600, a selling price of $20, variable cost per unit of $8, and total fixed costs
of $360,000. Brooklyn's safety margin in units is: 
 

A.  (13,400).
B.  0.
C.  1,600.
D.  13,600.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 

7-72
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53. Brooklyn sells a single product to wholesalers. The company's budget for the upcoming year revealed
anticipated unit sales of 31,600, a selling price of $20, variable cost per unit of $8, and total fixed costs
of $360,000. If Brooklyn's unit sales are 200 units less than anticipated, its breakeven point will: 
 

A.  increase by $12 per unit sold.

B.  decrease by $12 per unit sold.
C.  increase by $8 per unit sold.
D.  decrease by $8 per unit sold.
E.  not change.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 
54. Brooklyn sells a single product to wholesalers. The company's budget for the upcoming year revealed
anticipated unit sales of 31,600, a selling price of $20, variable cost per unit of $8, and total fixed costs
of $360,000. If Brooklyn's unit sales are 300 units more than anticipated, its break-even point will: 
 

A.  increase by $12 per unit sold.

B.  decrease by $12 per unit sold.
C.  increase by $8 per unit sold.
D.  decrease by $8 per unit sold.
E.  not change.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 
55. If a company desires to increase its safety margin, it should: 
 

A.  increase fixed costs.

B.  decrease the contribution margin.
C.  decrease selling prices, assuming the price change will have no effect on demand.
D.  stimulate sales volume.
E.  attempt to raise the break-even point.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.

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56. Danielle sells a single product at $20 per unit. The firm's most recent income statement revealed unit
sales of 100,000, variable costs of $800,000, and fixed costs of $400,000. If a $4 drop in selling price
will boost unit sales volume by 20%, the company will experience: 
 

A.  no change in profit because a 20% drop in sales price is balanced by a 20% increase in volume.
B.  an $80,000 drop in profit.
C.  a $240,000 drop in profit.
D.  a $400,000 drop in profit.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 
57. Grime-X is studying the profitability of a change in operation and has gathered the following
information:

   

Should Grime-X make the change? 

 

A.  Yes, the company will be better off by $6,000.

B.  No, because sales will drop by 3,000 units.
C.  No, because the company will be worse off by $4,000.
D.  No, because the company will be worse off by $22,000.
E.  It is impossible to judge because additional information is needed.
 
AACSB: Analytic
AICPA BB: Resource Management
AICPA FN: Risk Analysis
Blooms: Evaluate
Difficulty: 3 Hard
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 

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58. Cleason sells a single product at $14 per unit. The firm's most recent income statement revealed unit
sales of 80,000, variable costs of $800,000, and fixed costs of $560,000. Management believes that a $3
drop in selling price will boost unit sales volume by 20%. Which of the following correctly depicts how
these two changes will affect the company's break-even point?

    
 

A.  Choice A
B.  Choice B
C.  Choice C
D.  Choice D
E.  Choice E
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 
59. All other things being equal, a company that sells multiple products should attempt to structure its sales
mix so the greatest portion of the mix is composed of those products with the highest: 
 

A.  selling price.

B.  variable cost.
C.  contribution margin.
D.  fixed cost.
E.  gross margin.
 
AACSB: Reflective Thinking
AICPA BB: Resource Management
AICPA FN: Risk Analysis
Blooms: Analyze
Difficulty: 3 Hard
Learning Objective: 07-05 Compute the break-even point and prepare a profit-volume graph for a multiproduct enterprise.
 

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60. O'Dale sells three products: R, S, and T. Budgeted information for the upcoming accounting period
follows.

   

The company's weighted-average unit contribution margin is: 

 

A.  $3.00.
B.  $3.55.
C.  $4.00.
D.  $19.35.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-05 Compute the break-even point and prepare a profit-volume graph for a multiproduct enterprise.
 
61. Wellcom Corporation has the following sales mix for its three products: A, 20%; B, 35%; and C, 45%.
Fixed costs total $400,000 and the weighted-average contribution margin is $100. How many units of
product A must be sold to break-even? 
 

A.  800.
B.  4,000.
C.  20,000.
D.  None of the other answers is correct.
E.  Cannot be determined based on the information presented.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-05 Compute the break-even point and prepare a profit-volume graph for a multiproduct enterprise.
 

7-76
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62. Jamal & Co. makes and sells two types of shoes, Plain and Fancy. Data concerning these products are as
follows:

   

Sixty percent of the unit sales are Plain, and annual fixed expenses are $45,000.
The weighted-average unit contribution margin is: 
 

A.  $4.80.
B.  $9.00.
C.  $9.25.
D.  $17.00.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-05 Compute the break-even point and prepare a profit-volume graph for a multiproduct enterprise.
 
63. Jamal & Co. makes and sells two types of shoes, Plain and Fancy. Data concerning these products are as
follows:

   

Sixty percent of the unit sales are Plain, and annual fixed expenses are $45,000.
Assuming that the sales mix remains constant, the total number of units that Jamal must sell to break
even is: 
 

A.  2,432.
B.  2,647.
C.  4,737.
D.  5,000.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-05 Compute the break-even point and prepare a profit-volume graph for a multiproduct enterprise.
 

7-77
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64. Jamal & Co. makes and sells two types of shoes, Plain and Fancy. Data concerning these products are as
follows:

   

Sixty percent of the unit sales are Plain, and annual fixed expenses are $45,000.
Assuming that the sales mix remains constant, the number of units of Plain that Jamal must sell to break
even is: 
 

A.  2,000.
B.  3,000.
C.  3,375.
D.  5,000.
E.  5,625.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-05 Compute the break-even point and prepare a profit-volume graph for a multiproduct enterprise.
 
65. Jamal & Co. makes and sells two types of shoes, Plain and Fancy. Data concerning these products are as
follows:

   

Sixty percent of the unit sales are Plain, and annual fixed expenses are $45,000.
Assuming that the sales mix remains constant, the number of units of Fancy that Jamal must sell to break
even is: 
 

A.  2,000.
B.  3,000.
C.  3,375.
D.  5,000.
E.  5,625.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-05 Compute the break-even point and prepare a profit-volume graph for a multiproduct enterprise.
 

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66. Which of the following underlying assumptions form(s) the basis for cost-volume-profit analysis? 
 

A.  Revenues and costs behave in a linear manner.

B.  Costs can be categorized as variable, fixed, or semivariable.
C.  Worker efficiency and productivity remain constant.
D.  In multiproduct organizations, the sales mix remains constant.
E.  All the other answers are assumptions that underlie cost-volume-profit analysis.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-06 List and discuss the key assumptions of CVP analysis.
 
67. Cost-volume-profit analysis is based on certain general assumptions. Which of the following is not one
of these assumptions? 
 

A.  Product prices will remain constant as volume varies within the relevant range.
B.  Costs can be categorized as fixed, variable, or semivariable.
C.  The efficiency and productivity of the production process and workers will change to reflect
manufacturing advances.
D.  Total fixed costs remain constant as activity changes.
E.  Unit variable cost remains constant as activity changes.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-06 List and discuss the key assumptions of CVP analysis.
 
68. The assumptions on which cost-volume-profit analysis is based appear to be most valid for businesses: 
 

A.  over the short run.

B.  over the long run.
C.  over both the short run and the long run.
D.  in periods of sustained profits.
E.  in periods of increasing sales.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-06 List and discuss the key assumptions of CVP analysis.
 

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69. The contribution income statement differs from the traditional income statement in which of the
following ways? 
 

A.  The traditional income statement separates costs into fixed and variable components.
B.  The traditional income statement subtracts all variable costs from sales to obtain the contribution
margin.
C.  Cost-volume-profit relationships can be analyzed more easily from the contribution income
statement.
D.  The effect of sales volume changes on profit is readily apparent on the traditional income statement.
E.  The contribution income statement separates costs into product and period categories.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-07 Prepare and interpret a contribution income statement.
 
70. Which of the following does not typically appear on a contribution income statement? 
 

A.  Net income.

B.  Gross margin.
C.  Contribution margin.
D.  Total variable costs.
E.  Total fixed costs.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-07 Prepare and interpret a contribution income statement.
 
71. Which of the following does not typically appear on an income statement prepared by using a traditional
format? 
 

A.  Cost of goods sold.

B.  Contribution margin.
C.  Gross margin.
D.  Selling expenses.
E.  Administrative expenses.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-07 Prepare and interpret a contribution income statement.
 

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72. The extent to which an organization uses fixed costs in its cost structure is measured by: 
 

A.  financial leverage.

B.  operating leverage.
C.  fixed cost leverage.
D.  contribution leverage.
E.  efficiency leverage.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-08 Explain the role of cost structure and operating leverage in CVP relationships.
 
73. A manager who wants to determine the percentage impact on income of a given percentage change in
sales would multiply the percentage increase/decrease in sales revenue by the: 
 

A.  contribution margin.

B.  gross margin.
C.  operating leverage factor.
D.  safety margin.
E.  contribution-margin ratio.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-08 Explain the role of cost structure and operating leverage in CVP relationships.
 
74. Miller Company has an operating leverage factor of 5. Which of the following statements is true?

Thus, an 8% change in ______ should result in a 40% change in _____. The respective amounts that
change are: 
 

A.  An 8% change in income should result in a 40% change in sales revenue.

B.  An 8% change in sales revenue should result in a 40% change in income.
C.  An 8% change in variable costs should result in a 40% change in contribution margin.
D.  An 8% change in fixed costs should result in a 40% change in income.
E.  An 8% change in variable costs should result in a 40% change in break-even sales.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-08 Explain the role of cost structure and operating leverage in CVP relationships.
 

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75. Which of the following calculations can be used to measure a company's degree of operating leverage? 
 

A.  Contribution margin ÷ sales.

B.  Contribution margin ÷ income.
C.  Sales ÷ contribution margin.
D.  Sales ÷ income.
E.  Sales ÷ fixed costs.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 07-08 Explain the role of cost structure and operating leverage in CVP relationships.
 
76. You are analyzing Becker Corporation and Newton Corporation and have concluded that Becker has a
higher operating leverage factor than Newton. Which one of the following choices correctly depicts (1)
the relative use of fixed costs (as opposed to variable costs) for the two companies and (2) the percentage
change in income caused by a change in sales?

    
 

A.  Choice A
B.  Choice B
C.  Choice C
D.  Choice D
E.  Choice E
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-08 Explain the role of cost structure and operating leverage in CVP relationships.
 

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77. The following information relates to Dazie Company:

   

Dazie's operating leverage factor is closest to: 

 

A.  0.067.
B.  0.167.
C.  0.400.
D.  2.500.
E.  6.000.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-08 Explain the role of cost structure and operating leverage in CVP relationships.
 
78. The following information relates to Paternus Company:

   

If a manager at Paternus desired to determine the percentage impact on income of a given percentage
change in sales, the manager would multiply the percentage increase/decrease in sales revenue by: 
 

A.  0.25.
B.  0.40.
C.  2.50.
D.  4.00.
E.  10.00.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-08 Explain the role of cost structure and operating leverage in CVP relationships.
 

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79. Edmonco Company produced and sold 45,000 units of a single product last year, with the following
results:

   

Edmonco's operating leverage factor was: 

 

A.  4.
B.  5.
C.  6.
D.  7.
E.  8.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-08 Explain the role of cost structure and operating leverage in CVP relationships.
 

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80. Edmonco Company produced and sold 45,000 units of a single product last year, with the following
results:

   

If Edmonco's sales revenues increase 15%, what will be the percentage increase in income before income
taxes? 
 

A.  15%.
B.  45%.
C.  60%.
D.  75%.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-08 Explain the role of cost structure and operating leverage in CVP relationships.
 

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81. When advanced manufacturing systems are installed, what effect does such installation usually have on
fixed costs and the break-even point?

    
 

A.  Choice A
B.  Choice B
C.  Choice C
D.  Choice D
E.  Choice E
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-08 Explain the role of cost structure and operating leverage in CVP relationships.
 
82. Which of the following statements is (are) true regarding a company that has implemented flexible
manufacturing systems and activity-based costing?

I. The company has erred, as these two practices used in conjunction with one another will severely limit
the firm's ability to analyze costs over the relevant range.
II. Costs formerly viewed as fixed under traditional-costing systems may now be considered variable
with respect to changes in cost drivers such as number of setups, number of material moves, and so forth.
III. As compared with the results obtained under a traditional-costing system, the concept of break-even
analysis loses meaning. 
 

A.  I only.
B.  II only.
C.  III
only.
D.  I and II.
E.  II and III.
 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-10 Be aware of the effects of advanced manufacturing technology on CVP relationships.
 

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83. A company, subject to a 40% tax rate, desires to earn $500,000 of after-tax income. How much should
the firm add to fixed costs when figuring the sales revenues necessary to produce this income level? 
 

A.  $200,000.
B.  $300,000.
C.  $500,000.
D.  $833,333.
E.  $1,250,000.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-11 Understand the effect of income taxes on CVP analysis (appendix).
 
84. Barrey, Inc. is subject to a 40% income tax rate. The following data pertain to the period just ended when
the company produced and sold 45,000 units:

   

How many units must Barrey sell to earn an after-tax profit of $180,000? 
 

A.  42,000.
B.  45,000.
C.  51,000.
D.  61,000.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-11 Understand the effect of income taxes on CVP analysis (appendix).
 

7-87
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85. Barrey, Inc. is subject to a 40% income tax rate. The following data pertain to the period just ended when
the company produced and sold 45,000 units:

   

How many units must Barrey sell to earn an after-tax profit of $225,000? 
 

A.  67,250.
B.  62,250.
C.  61,000.
D.  51,000.
E.  None of the other answers is correct.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-11 Understand the effect of income taxes on CVP analysis (appendix).
 
 

Essay Questions
 

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86. Vince's Pizza delivers pizzas to dormitories and apartments near a major state university. The company's
annual fixed costs are $48,000. The sales price averages $9, and it costs the firm $3 to make and deliver
each pizza.

Required:

A. How many pizzas must Vince's sell to break even?

B. How many pizzas must the company sell to earn a target profit of $54,000?
C. If budgeted sales total 9,900 pizzas, how much is the company's safety margin in dollars?
D. Vince's assistant manager, an accounting major, has suggested that the firm should try to increase the
contribution margin per pizza. Explain the meaning of "contribution margin" in layman's terms. 
 

A.    

B. Pizzas to earn $54,000: ($48,000 + $54,000) ÷ $6 = 17,000

C. Safety margin: (9,900 × $9) - (8,000 × $9) = $17,100
D. The contribution margin is the amount that each unit (pizza) contributes toward covering fixed cost
and producing a profit. Once a company's fixed costs are covered, operating income will increase by the
amount of the contribution margin. Mathematically, it is computed as the difference between selling
price and the variable cost per unit.

 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 

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87. Seventh Heaven takes tourists on helicopter tours of Hawaii. Each tourist buys a $150 ticket; the variable
costs average $60 per person. Seventh Heaven has annual fixed costs of $702,000.

Required:

A. Compute the average number of tours the company must conduct per month to break even.
B. Compute the average sales revenue needed per month to produce a target average profit of $36,000
per month. See below (answer to "B").
C. Calculate the contribution margin ratio.
D. Determine whether the actions that follow will increase, decrease, or not affect the company's break-
even point.

1. A decrease in tour prices.

2. The termination of a salaried clerk (no replacement is planned).
3. A decrease in the number of tours sold. 
 

A.    

B. Tours to earn $36,000: [($702,000 ÷ 12 months) + $36,000] ÷ $90 = 1,050

C. Contribution margin ratio: $90 ÷ $150 = 0.6
D. 1. Increase
2. Decrease
3. No effect

 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
Learning Objective: 07-02 Compute the contribution-margin ratio and use it to find the break-even point in sales dollars.
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 

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88. The information that follows was obtained from the accounting records of Gladstone Manufacturing
during a period when the company sold 100,000 units.

   

Required:

A. Compute the company's per-unit contribution margin and break-even point in units.
B. How many units must Gladstone sell to produce a target profit of $550,400?
C. Assume that Gladstone was able to reduce the variable cost per unit by $4. What selling price could
management charge if it desired to maintain the current break-even point?
D. Depreciation charges of $640,000 are included in the firm's fixed costs of $6,016,000. If these charges
were to increase by 10%, what effect, if any, would this cost increase have on the company's contribution
margin? 
 

A.    

B. Unit sales to earn $550,400: ($6,016,000 + $550,400) ÷ $64 = 102,600

C. The current selling price is $88 per unit ($8,800,000 ÷ 100,000 units). Gladstone must maintain the
same per-unit contribution margin to achieve a break-even point of 94,000 units. Thus, the $4 reduction
in variable cost must be matched by a $4-per-unit reduction in revenue, yielding a selling price of $84
($88 - $4).
D. No effect. A change in fixed costs does not impact the contribution margin (sales price - variable
cost).

 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 

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89. Thomlinson Company is considering the development of two products: no. 65 or no. 66. Manufacturing
cost information follows.

   

Regardless of which product is introduced, the anticipated selling price will be $50 and the company will
pay a 10% sales commission on gross dollar sales. Thomlinson will not carry an inventory of these items.

Required:

A. What is the break-even sales volume (in dollars) on product no. 66?
B. Which of the two products will be more profitable at a sales level of 25,000 units?
C. At what unit-volume level will the profit/loss on product no. 65 equal the profit/loss on product no.
66? 
 

   

C. X = Number of units
($50 - $38) X - $220,000 = ($50 - $30) X - $340,000
$12X - $220,000 = $20X - $340,000
$8X = $120,000
X = 15,000 units

 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply

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 Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 
90. The Braggs & Strutting' Company manufactures an engine for carpet cleaners called the "Snooper."
Budgeted cost and revenue data for the "Snooper" are given below, based on sales of 40,000 units.

   

Cost of goods sold consists of $810,000 of variable costs and $310,000 of fixed costs. Operating
expenses consist of $30,000 of variable costs and $70,000 of fixed costs.

Required:

A. Calculate the break-even point in units and sales dollars.

B. Calculate the safety margin (in dollars).
C. Braggs & Struttin' received an order for 6,000 units at a price of $25.00. There will be no increase in
fixed costs, but variable costs will be reduced by $0.54 per unit because of cheaper packaging.
Determine the projected increase or decrease in profit from the order, assuming there is no opportunity
costs. 
 

   

 
AACSB: Analytic

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 AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 
91. Elmton recently sold 70,000 units, generating sales revenue of $4,900,000. The company's variable cost
per unit and total fixed cost amounted to $20 and $2,800,000, respectively. Management is in the process
of studying the dollar impact of various transactions and events, and desires answers to the following
independent cases:

Case no. 1: Management wants to lower the firm's break-even point to 52,000 units. If all other costs
remain constant, what must happen to fixed costs to achieve this objective?
Case no. 2: The company anticipates a $2 hike in the variable cost per unit. If all other costs remain
constant and management desires to maintain the firm's current break-even point, what must happen to
Elmton's selling price? If selling price remains constant, what must happen to the firm's total fixed costs?

Required:

A. Answer the two cases raised by management.

B. Determine the impact (increase, decrease, or no effect) of the following operating changes on the
items cited:

1. An increase in variable selling costs on income.

2. A decrease in direct material cost on the unit contribution margin.
3. A decrease in the number of units sold on the break-even point. 
 

A. Case no. 1:
Selling price per unit: $4,900,000 ÷ 70,000 units = $70
Unit contribution margin: $70 - $20 = $50
Current break-even point: $2,800,000 ÷ $50 = 56,000 units
New level of fixed cost: X ÷ $50 = 52,000 units; X = $2,600,000
Fixed costs must decrease by $200,000 ($2,800,000 - $2,600,000).

Case no. 2:
To keep the same break-even point, the contribution margin must remain at $50. Thus, the selling price
must increase to $72 to offset the $2 hike in variable cost.
Break-even: Fixed cost ÷ $48 = 56,000 units; fixed cost = $2,688,000
Fixed costs must fall by $112,000 ($2,800,000 - $2,688,000) if the selling price remains constant.

B. 1. Decrease
2. Increase
3. No effect

 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement

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 Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 
92. Hitchcock Company is studying the impact of the following:

1. An increase in sales price.

2. An increase in the variable cost per unit.
3. An increase in the number of units sold (note: each unit produces a $6 contribution margin).
4. A decrease in fixed costs.
5. A proposed change in the method of compensation for salespeople, away from commissions based on
gross sales dollars and toward higher monthly salaries.

Required:

Determine the impact of each of these operating changes on Hitchcock's per-unit contribution margin
and break-even point by completing the chart that follows. Your responses should be Increase (INC),
Decrease (DEC), No Effect (NE), or Insufficient Information to Judge (II). 
 

   

   

 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand

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 Difficulty: 2 Medium
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 
93. Goldstone Company is studying the impact of the following:

1. An increase in sales price on the break-even point.

2. A decrease in fixed costs on the contribution margin.
3. An increase in the contribution margin on the break-even point.
4. A decrease in the variable cost per unit on the sales volume needed to achieve Goldstone's $68,000
target profit.
5. An increase in sales commissions on the contribution margin and the break-even point.
6. A decrease in anticipated advertising outlays on fixed cost and the break-even point.

Required:

Determine the impact of these operating changes (increase, decrease, no effect) on the item(s) noted. 

   

 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
Learning Objective: 07-04 Apply CVP analysis to determine the effect on profit of changes in fixed expenses; variable expenses; sales
prices; and sales volume.
 

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94. Boyze Company manufactures and sells three products: Good, Better, and Best. Annual fixed costs are
$3,315,000, and data about the three products follow.

   

Required:

A. Determine the weighted-average unit contribution margin.

B. Determine the break-even volume in units for each product.
C. Determine the total number of units that must be sold to obtain a profit for the company of $234,000.
D. Assume that the sales mix for Good, Better, and Best is changed to 50%, 30%, and 20%, respectively.
Will the number of units required to break-even increase or decrease? Explain. Hint: Detailed
calculations are not needed to obtain the proper solution. 
 

A.

B. Break-even volume: $3,315,000 ÷ $195 = 17,000 units

Good: 17,000 × 30% = 5,100 units
Better: 17,000 × 50% = 8,500 units
Best: 17,000 × 20% = 3,400 units

C. Volume to earn $234,000: ($3,315,000 + $234,000) ÷ $195 = 18,200 units

D. The number of units required would increase since a greater proportion of lower-contribution-margin
units (specifically, Good) would be sold.

 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply

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 Difficulty: 3 Hard
Learning Objective: 07-05 Compute the break-even point and prepare a profit-volume graph for a multiproduct enterprise.
 

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95. Alphabeta Corporation sells three products: J, K, and L. The following information was taken from a
recent budget:

   

Total fixed costs are anticipated to be $2,450,000.

Required:

A. Determine Alphabeta's sales mix.

B. Determine the weighted-average contribution margin.
C. Calculate the number of units of J, K, and L that must be sold to break even.
D. If Alphabeta desires to increase company profitability, should it attempt to increase or decrease the
sales of product K relative to those of J and L? Briefly explain. 
 

A. Sales mix: 40,000 + 130,000 + 30,000 = 200,000 units

J: 40,000 ÷ 200,000 = 20%
K: 130,000 ÷ 200,000 = 65%
L: 30,000 ÷ 200,000 = 15%
B. Unit contribution margins:

   

C. Break-even volume: $2,450,000 ÷ $17.50 = 140,000 units

J: 140,000 × 20% = 28,000 units
K: 140,000 × 65% = 91,000 units
L: 140,000 × 15% = 21,000 units
D. As measured in units, K has 65% of the company's sales mix. Unfortunately, though, K is Alphabet's
least profitable product ($15 contribution margin vs. $20 and $25). To increase overall profitability, the
firm should strive to decrease sales of K relative to those of J and L.

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McGraw-Hill Education.
 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-05 Compute the break-even point and prepare a profit-volume graph for a multiproduct enterprise.
 

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96. Brice Publications, Inc. produces and sells business books. The results of the company's operations for
the year ended December 31, 20x1, are given below.

   

Required:

A. Prepare a traditional income statement for the company.

B. Prepare a contribution income statement for the company.
C. Which income statement (traditional or contribution) would an operating manager most likely use to
study changes in operating income that are caused by changes in sales? Why? 
 

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C. The contribution statement would be used because the fixed and variable costs must be separated in
order to measure the effect of a volume change on total costs. Unfortunately, a traditional income
statement does not provide the necessary information.

 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Reporting
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-07 Prepare and interpret a contribution income statement.
 

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97. High Point Corporation reported sales revenues of $1,850,000 for the period just ended. Cost of goods
sold, selling expenses, and administrative expenses totaled $1,200,000, $280,000, and $170,000,
respectively. A detailed analysis of the latter three amounts revealed respective fixed cost components of
$780,000, $60,000, and $130,000.

Required:

A. Determine the amounts, if any, that High Point would report on a traditional income statement for (1)
gross margin, (2) contribution margin, and (3) income.
B. Determine the amounts, if any, that High Point would report on a contribution income statement for
(1) gross margin, (2) contribution margin, and (3) income.
C. Which of the two income statements (traditional or contribution) is more useful for studying a
company's cost-volume-profit relationships? 
 

A. 1. Sales ($1,850,000) - cost of goods sold ($1,200,000) = gross margin ($650,000)

2. $0. The contribution margin is not disclosed on a traditional income statement.
3. Gross margin ($650,000) - selling expenses ($280,000) - administrative expenses ($170,000) =
income ($200,000)
B. 1. $0. Gross margin is not disclosed on a contribution income statement.
2.

   

3. Contribution margin ($1,170,000) - fixed expenses ($780,000 + $60,000 + $130,000 = $970,000) =

income ($200,000)
C. Contribution income statement

 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Reporting
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-07 Prepare and interpret a contribution income statement.
 

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98. Cortez Enterprises is studying the addition of a new product that would have an expected selling price of
$180 and expected variable cost of $120. Anticipated demand is 9,000 units.

A new salesperson must be hired because the company's current sales force is working at capacity. Two
compensation plans are under consideration:
Plan 1: An annual salary of $38,000 plus 10% commission based on gross sales dollars
Plan 2: An annual salary of $180,000 and no commission

Required:

A. What is meant by the term "operating leverage"?

B. Calculate the contribution margin and income of the two plans at 9,000 units.
C. Compute the operating leverage factor of the two plans at 9,000 units. Which of the two plans is more
highly leveraged? Why?
D. Assume that a general economic downturn occurred during year no. 2, with product demand falling
from 9,000 to 7,200 units. By using the operating leverage factors, determine and show which plan
would produce a larger percentage decrease in income. 
 

A. Operating leverage refers to the use of fixed costs in an organization's overall cost structure. An
organization that has a relatively high proportion of fixed costs and low proportion of variable costs has a
high degree of operating leverage.

B.

C. Plan 1: $378,000 ÷ $340,000 = 1.11

Plan 2: $540,000 ÷ $360,000 = 1.5
Plan 2 has the higher degree of operating leverage because it has the higher operating leverage factor.
D. Cortez would experience a larger percentage decrease in income if it adopts Plan 2. This situation
arises because Plan 2 has a higher degree of operating leverage.

The percentage decreases in profitability can be figured by multiplying the percentage decrease in sales
revenue by the operating leverage factor. Sales dropped from 9,000 units to 7,200 units, or 20%. Thus:

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 Plan 1: 20% × 1.11 = 22.2%
Plan 2: 20% × 1.5 = 30.0%

 
AACSB: Analytic
AICPA BB: Critical Thinking
AICPA FN: Measurement
Blooms: Apply
Difficulty: 3 Hard
Learning Objective: 07-08 Explain the role of cost structure and operating leverage in CVP relationships.
 

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99. Once upon a time, two brothers (Barry and Larry) dreamt about owning and operating companies in the
same line of business. Barry believed in maintaining a very large, highly efficient manual labor force;
Larry, on the other hand, favored automated-production processes. One business was located in Madison
and the other was located in Austin. Recent data follow.

   

Required:

A. Which of the two businesses, Madison or Austin, has the higher level of (1) variable cost and (2)
higher level of fixed cost? Explain how you determined your answer.
B. Determine the probable owner of the firm located in (1) Madison and (2) Austin. Briefly explain your
logic.
C. Compute the operating leverage factor for Madison and Austin.
D. Suppose that both Madison and Austin had the opportunity to increase sales by 10%. Which of the
two locations would experience a larger percentage change in net income? Why? 
 

A. Given that both locations have identical sales, Austin has a higher level of variable cost ($1,600,000
vs. $300,000) as indicated by a smaller contribution margin. Madison, in contrast, has a higher amount of
fixed cost ($1,550,000 vs. $250,000) because of the larger contribution margin and an income equal to
that of Austin.
B. Operations with sizable labor forces have high variable costs; conversely, automated facilities give
rise to high fixed costs (e.g., depreciation, lease payments, maintenance). Thus, Barry's philosophy is
most closely associated with the Austin facility, and Larry's seems consistent with the cost structure in
Madison.
C. Madison: $1,700,000 ÷ $150,000 = 11.33
Austin: $400,000 ÷ $150,000 = 2.67
D. Madison would experience a larger percentage change in net income because it is more highly
leveraged than Austin. Mathematically, the percentage change in income can be computed by
multiplying the operating leverage factor by the percentage change in sales revenue.

 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Evaluate
Difficulty: 3 Hard
Learning Objective: 07-08 Explain the role of cost structure and operating leverage in CVP relationships.
 

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100. Maddock Corporation's product no. H647 has a negative contribution margin. How can such a situation
arise? Should the company continue to stock and sell product no. H647? Explain. 
 

A negative contribution arises because selling price is less than variable cost. Several reasons may create
this situation: (1) inefficient operations and, thus, higher costs; (2) a very competitive marketplace,
which has forced the firm to lower its price; and (3) a loss leader whereby Maddock is purposely taking a
loss on product no. H647 with the intent of stimulating customer demand for other, more profitable
products.

Each unit sold will lower overall profitability so, technically, Maddock should not continue to sell
product no. H647. However, for reasons (2) and (3) above, the firm might decide otherwise and stick
with this "loser."

 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Evaluate
Difficulty: 3 Hard
Learning Objective: 07-01 Compute a break-even point using the contribution-margin approach and the equation approach.
 
101. Operating leverage is an important concept for many companies.

Required:

A. Define operating leverage.

B. Assume that a firm pays no income taxes and is planning to increase its selling price. If sales volume
in units does not change, what will be the effect on the operating leverage factor? Explain.
C. Assume that another firm that pays no income taxes is planning to increase total fixed manufacturing
costs and decrease variable manufacturing costs per unit. At the present volume of production, the total
manufacturing costs will be unchanged. What will this change do to the operating leverage factor?
Explain. 
 

A. Mathematically, operating leverage is contribution margin divided by income. The degree of

operating leverage indicates a company's ability to operate with a given amount of fixed cost relative to
variable cost.
B. The increase in selling price with no change in units sold will increase both contribution margin and
net income by the same dollar amount. The percentage change in net income will be greater than the
percentage change in contribution margin and, thus, the operating leverage factor will decrease.
C. The decrease in variable costs will increase the contribution margin, but net income will not change
because total costs remain the same. The operating leverage factor will therefore increase.

 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand

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 Difficulty: 2 Medium
Learning Objective: 07-08 Explain the role of cost structure and operating leverage in CVP relationships.
 
102. Many firms are moving toward flexible manufacturing systems and adopting the just-in-time (JIT)
philosophy.

Required:

A. How is cost behavior altered in the typical flexible manufacturing environment as compared to a
traditional manufacturing system? What is the impact on the break-even point? Explain.
B. One of the assumptions underlying cost-volume profit analysis is that sales volume and production
volume are equal. Stated another way, inventories are assumed to remain constant. Is this assumption
likely to be violated under an ongoing JIT philosophy? Explain. 
 

A. Variable manufacturing costs typically decrease in a flexible manufacturing environment and total
fixed costs increase. Automation (along with accompanying depreciation, lease, and maintenance costs)
and fewer people normally account for this change. The break-even point, as a result, often increases.
B. When a company first changes to JIT, there is likely to be a drop-off in inventories. However, the
assumption of no significant change in inventories will probably not be violated for an ongoing JIT user.
Any accompanying level changes are not likely to be significant relative to the volume of production and
sales.

 
AACSB: Reflective Thinking
AICPA BB: Critical Thinking
AICPA FN: Research
Blooms: Understand
Difficulty: 2 Medium
Learning Objective: 07-10 Be aware of the effects of advanced manufacturing technology on CVP relationships.
 

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