Question

Data for Hermann Corporation are shown below: Per Unit Percent of Sales Selling price $ 70 100 % Variable expenses 49 70 Contribution margin $ 21 30 % Fixed expenses are $74,000 per month and the company is selling 4,400 units per month. Exercise 5-5 (Algo) Part 2 2-a. Refer to the original data. How much will net operating income increase (decrease) per month if the company uses higher-quality components that increase the variable expense by $4 per unit and increase unit sales by 25%. 2-b. Should the higher-quality components be used?

Answer 1

Solution:

If high quality components are used ,

Sales increases by 25% = 4,400 *125% = 5,500 units

Variable expenses will increase by $4 per unit = $49 + $4 = $53 per unit

New Contrybution margin is = 5,500 * $70 - 5,500 * $53 = $93,500

Change in contrybution margin = $93,500 - $21*4,400 = $1,100

2 a. Increase in net operating income per month is $1,100.

2. b Yes, High quality components will be used as it increase contrybution margin by $1,100 per month.

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