CandyCandyRugs is holding a 2-week carpet sale at Jerry'sJerry's Club, a local warehouse store. CandyCandy Rugs plans to sell carpets for $800 each. The company will purchase the carpets from a local distributor for $560 each, with the privilege of returning any unsold units for a full refund. Jerry'sJerry's Club has offered CandyCandy Rugs two payment alternatives for the use of space.

Option 1: A fixed payment of $8,640 for the sale period times

Option 2: 15% of total revenues earned during the sale period. Assume CandyCandy Rugs will incur no other costs.

1.	Calculate the breakeven point in units for (a) option 1 and (b) option 2.
2.	At what level of revenues will CandyCandy Rugs earn the same operating income under either option?
	a. For what range of unit sales will CandyCandy Rugs prefer option 1?
	b. For what range of unit sales will CandyCandy Rugs prefer option 2?
3.	Calculate the degree of operating leverage at sales of 72 units for the two rental options.
4.	Briefly explain and interpret your answer to requirement 3.

Requirement 1. Calculate the breakeven point in units for (a) option 1 and (b) option 2.

Begin by determining the formula to calculate the breakeven point in units.

Number of units to breakeven

=

Fixed cost

Contribution margin per unit

Calculate the breakeven point in units for option 1, then option 2. (Round your answers up to the nearest whole number. Enter "0" for zero balances.)

	Units
(a) Option 1	36
(b) Option 2	0

Requirement 2. At what level of revenues will CandyCandy Rugs earn the same operating income under either option?

a. For what range of unit sales will CandyCandy Rugs prefer option 1?

b. For what range of unit sales will CandyCandy Rugs prefer option 2?

Begin by determining the formula to calculate the operating income where each option is equal. (Abbreviation used: FC = Fixed costs, SP = Selling price, VC = Variable costs, Q = Quantity of units sold.)

Option 1

=

Option 2

(

SP

Q)

-

(

VC

Q)

-

FC

= (

SP

Q)

-

(

VC

Q)

-

FC

Now calculate the level of revenues.

It will take	72	units to generate the same operating income under either option. The level of revenues under either option
using these units equal $			57,600	.

a. For what range of unit sales will CandyCandy Rugs prefer option 1?

Option 1 would be preferred when units sold exceed the units you determined for the level of revenues when the two options earned the same operating income.

b. For what range of unit sales will CandyCandy Rugs prefer

option 2? CandyCandy Rugs would prefer option 2 when units sold are less than the units you determined for the level of revenues when the two options earned the same operating income.

Requirement 3. Calculate the degree of operating leverage at sales of

72

units for the two rental options.

Begin by determining the formula to calculate the degree of operating leverage. Then, calculate the degree of operating leverage for option 1, then option 2. (Round your answers to two decimal places. X.XX)

					Degree of
	Contribution margin		Operating income	=	operating leverage

Option 1				=
Option 2				=