The section of Waterways that produces controllers for the company provided the following...

Question:

The section of Waterways that produces controllers for the company provided the following information.

Sales for month of February 4,000

Variable manufacturing cost per unit $9.75

Sales price per unit $42.50

Fixed manufacturing overhead cost (per month for controllers) $81,000

Variable selling and administrative expenses per unit $3.00

Fixed selling and administrative expenses (per month for controllers) $13,122

Using this information for the controllers, determine the contribution margin ratio, the degree of operating leverage, the break-even point in dollars, and the margin of safety ratio for Waterways Corporation on this product.

Variable costing:

Variable costing income statement is a type of income statement mainly used by management for internal reporting purposes only. Using variable costing, the management can derive contribution margin , contribution margin ratio, degree of operating leverage, break-even point, and margin of safety ratio. All of these are helpful for decision making purposes.

Answer and Explanation:

The questions asked are quite straightforward since we can solve all of these using their corresponding formula. See detailed computation below:

Contribution margin ratio

  • Contribution margin ratio = (Sales price per unit - Variable cost per unit) / Sales price per unit
  • Contribution margin ratio = ($42.50 - $9.75 - $3) / $42.50
  • Contribution margin ratio = $29,75 / $42.50
  • Contribution margin ratio = 0.7 or 70%

Degree of operating leverage

  • Degree of operating leverage = Contribution margin / Operating income
  • Degree of operating leverage = (4,000 units x $42. 5 per unit x 70%) / (Contribution margin - Fixed manufacturing overhead cost - Fixed selling and administrative expenses)
  • Degree of operating leverage = (4,000 units x $42. 5 per unit x 70%) / ((4,000 units x $42. 5 per unit x 70%) - Fixed manufacturing overhead cost - Fixed selling and administrative expenses))
  • Degree of operating leverage = $119,000 / ($119,000 - $81,000 - $13,122)
  • Degree of operating leverage = $119,000 / $24,878
  • Degree of operating leverage = 4.78

Break-even point in dollars

  • Break-even point (dollars) = Total fixed cost / Contribution margin ratio
  • Break-even point (dollars) = ($81,000 + $13,122) / 70%
  • Break-even point (dollars) = $94,122 / 70%
  • Break-even point (dollars) = $134,460

Margin of safety ratio

  • Margin of safety ratio = (Current sales level - Break-even point) / Current sales level
  • Margin of safety ratio = ((4,000 units x $42.5) - $134,460) / (4,000 units x $42.5)
  • Margin of safety ratio = ($170,000 -$134,460) / $170,000
  • Margin of safety ratio = 0.209 or 21%

Learn more about this topic:

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Variable Costing: Method, Formula & Advantages

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Chapter 13 / Lesson 5
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