Cost Volume Profit Case

Jane and Rayna have asked for the income statement for JRS Inc. for the prior period from Shiva. In addition, they wanted additional information about the other manufacturing costs which increase with volume but not in exact proportion. Shiva compiled the following information for them.

JRS Inc.
Traditional Income Statement
		Total $
	Units	12,000
	Sales	6,000,000
Less:	Cost of goods sold	3,240,000
	Gross margin	2,760,000
Less:	SG&A	1,560,000
	Operating Income	1,200,000

	Units	Other manufacturing costs $
Jan	925	100,828
Feb	1100	105,620
Mar	950	101,722
Apr	600	89,998
May	760	94,728
Jun	1370	115,600
Jul	450	91,119
Aug	1200	108,016
Sep	1125	108,495
Oct	1400	116,662
Nov	970	100,972
Dec	1150	106,240
	12,000	1,240,000

*July was an unusual month. Production was affected due to unforeseen factors.

Jane and Rayna are willing to quite their legal careers and join the business on a fulltime basis if the business were to achieve a target operating income of $1,500,000 at least. They want to evaluate alternative courses of actions are available to them to achieve this target. Do they need a higher volume? Can they increase the price? Can they cut costs? Evaluate each of the factors separately, assuming other factors stay the same as given in the case.

1. What volume must the company sell to achieve a profit of $1,500,000?
2. What price must the company set out to achieve a profit of $1,500,000?
3. What must be the variable cost per unit to achieve a profit of $1,500,000?
4. What must be the fixed cost to achieve a profit of $1,500,000?

If the economy worsens and there is a decrease in demand for leather purses, what is the volume at which they start making losses? What is the margin of safety at their desired target sales volume to achieve the operating income of $1,500,000? What if they want to target

$900,000 after tax income and their tax rate is 40%. How sensitive is their operating income (at the current level) to the changes in sales volume? What would be the effect on operating income if sales were to increase by 5%?

Jane and Rayna want to also consider the data that Shiva provided for the new product leather briefcases. The consultant that Shiva hired gave them a potential target of 7,200 briefcase sales at the selling price of $1,000 per briefcase in the first year. The material cost, the labor cost, and the other manufacturing cost that varies with volume would be $230, $100, and $70 per briefcase, respectively. The sales commission would be $150 per briefcase. The other general administrative expenses would increase to $1,900,000 (both products combined) and the portion of the other manufacturing costs that do not vary with volume will increase to

$1,600,000 (both products combined). Assume all other costs for leather purses remain the same as given in part A of the case. If they were to add leather briefcases, how would the operating income change? If the economy worsens and there is a decrease in demand for leather purses and briefcases, what is the volume of leather purses and briefcases individually at which they start making losses?

Learning Outcomes:

The purpose of this case is to make sure that you can prepare a profitability analysis based on cost information given to you. You should be able to classify fixed and variable costs and use highlow method to separate fixed and variable components of a mixed cost. You should be able to use the profitability analysis to determine the effect of changing business conditions on the companys income statement, breakeven point, target income analysis, the effect of taxes on target income analysis, the margin of safety, operating leverage and modify the analysis for a multiproduct company.

Questions: 1)What is the break even volume in units? 2) What is their operating leverage factor? 3) In other words, how sensitive is their operating income (at the current level of $1,200,000) to the changes in sales volume. 4) What is the new level of operating income (in $) if the percentage change in sales is 5%? 5) If they were to add leather briefcases, how would the operating income change at the sales of 2 12,000 units of leather purses and 7,200 units of leather bags? 6)What is the break-even point for leather purses if they chose to introduce leather bags? 7)What is the break-even point for leather bags in units if they chose to introduce leather bags?

8) What is the margin of safety in dollars?