Question

Bubba’s Western Wear is a western hat retailer in Lubbock, Texas. Although Bubba’s carries numerous styles of western hats, each hat has approximately the same price and invoice (purchase) cost, as shown in the following table. Sales personnel receive a commission to encourage them to be more aggressive in their sales efforts. Currently, the Lubbock economy is really humming, and sales growth at Bubba’s has been great. The business is very competitive, however, and Bubba, the owner, has relied on his knowledgeable and courteous staff to attract and retain customers who otherwise might go to other western wear stores. Because of the rapid growth in sales, Bubba is also finding the management of certain aspects of the business more difficult, such as restocking inventory and hiring and training new salespeople. Sales price$80.00 Per unit variable expenses Purchase cost 29.50 Sales commissions 25.50 Total per unit variable costs$55.00 Total annual fixed expenses Advertising$237,500 Rent 218,000 Salaries 343,750 Total fixed expenses$799,250

Required

:1. Calculate the annual breakeven point, both in terms of units and in terms of sales dollars

.2. If Bubba’s sells 33,000 hats, what is its before-tax income or loss? Support your answer by preparing a contribution income statement.

3. If Bubba’s sells 46,000 hats, what is its margin of safety (MOS) in dollars and MOS ratio?

4. Bubba is considering the elimination of sales commissions completely and increasing salaries by $286,500 annually. What would be the new breakeven point in units? What would be the before-tax income or loss if 33,000 hats are sold with the new salary plan?

Answer 1

1) Break even unit = Fixed cost/Contribution margin per unit = 799250/(80-55) = 31970 Units

Break even sales = 31970*80 = $2557600

2) Contribution margin income statement

	Total	Per unit
Sales	2640000	80
Variable cost	1815000	55
Contribution margin	825000	25
Fixed cost	799250
Net income	25750

3) Margin of safety ($) = 46000-31970 = 14030*80 = 1122400

Margin of safety (%) = 14030/46000 = 30.5%

4) New break even unit = (799250+286500)/(80-29.50) = 21500 Units

New income before tax = (80-29.50)*33000-1085750 = 580750