Question

Leary and O’Donnell, a local CPA firm, has been asked to bid on a contract to perform audits for three counties in its home state. Because existing staff are fully scheduled, if the firm is awarded the contract, it must hire one new staff member at a salary of $52,000 to handle the additional workload. The managing partner is convinced that obtaining the contract will lead to additional new clients from the respective counties. Expected new work (excluding the three counties) is 750 hours at an average billing rate of $90.00 per hour. Other information follows about the firm’s current annual revenues and costs:

Firm volume in hours (normal)		30,750
Fixed costs	$	575,000
Variable cost	$	35.00	/hr

Should the firm win the contract, the audits of the three counties will require 950 hours of expected work.

Required:

1. If the managing partner’s expectations are correct, what is the lowest bid the firm can submit and still expect to increase annual net income? What would be the hourly billing rate for the county audit jobs just to break even on all the new business? (Round "Average billing rate" answer to 2 decimal places.)

2. If the contract is obtained at a price of $44,000, what is the minimum number of hours of new business in addition to the county work that must be obtained for the firm to break even on total new business? What is the margin of safety (MOS) regarding the county audit job proposal?

Answer 1

the minimum bid it should submit will be calculated as follwos :-

fixed cost for appointment of new staff 52000

variable cost for three counties (950x35) 33250

contribution on additional workload (750x{90-35}) (41250)

minimum bid for the counties 44000

2. if the contract price would have been $44000 then minimum hours of additional work would have been 750 hours as justified by 1st answer.

Margin of safety is the amount over and above break even point but if the contract would have been obtained for the amount of $44000 then it itself is at break even point and thus margin of safety in that case would have been nil.