Objective 3.6
Answer the following questions using the information below:
Southwestern College is planning to hold a fund raising banquet at one of the local country clubs. It has
two options for the banquet:
OPTION one: Crestview Country Club
a. Fixed rental cost of $1,000
b. $12 per person for food
OPTION two: Tallgrass Country Club
a. Fixed rental cost of $3,000
b. A caterer who charges $8.00 per person for food
Southwestern College has budgeted $1,800 for administrative and marketing expenses. It plans to hire a
band which will cost another $800. Tickets are expected to be $30 per person. Local business supporters
will donate any other items required for the event.
1) Which option provides the least amount of risk?
A) Option one
B) Option two
C) Both options provide the same amount of risk.
D) Option one is risk-free
2) Which option has the lowest breakeven point?
A) Option one
B) Option two
C) Both options have the same breakeven point.
D) The lowest breakeven point cannot be determined.
3) Which option provides the greatest operating income if 600 people attend?
A) Option one
B) Option two
C) Operating incomes are identical.
D) Both the options have 0 operating income as they are operating at breakeven point.
4) Which option provides the greatest degree of operating leverage if 600 people attend?
A) Option one
B) Option two
C) Both options provide equal degrees of operating leverage.
D) Operating leverage is indeterminable.
5) Option one: Fixed costs of $10,000 and a breakeven point of 500 units.
Option two: Fixed costs of $20,000 and a breakeven point of 700 units.
Which option should you choose if you are expecting to produce 600 units?
A) Option one as sales is higher than breakeven
B) Option two as sales is lower than breakeven
C) Option two as it would lead to a higher operating income
D) Option one as fixed costs is more
6) Sales of Blistre Autos are 350,000, variable cost is 200,000, fixed cost is 75,000, tax rate is 20%. Calculate
the operating leverage of the company.
A) 1.00 time
B) 1.50 times
C) 2.50 times
D) 2.00 times
7) In a company with low operating leverage, ________.
A) fixed costs are more than the contribution margin
B) contribution margin and operating income are inversely related
C) there is a higher possibility of net loss than a higher-leveraged firm
D) less risk is assumed than in a highly leveraged firm
8) If the contribution margin ratio is 0.40, targeted operating income is $80,000, and targeted sales volume
in dollars is $500,000, then the degree of operating leverage is ________.
A) 1.50 times
B) 2.00 times
C) 2.50 times
D) 3.00 times
9) If the contribution margin ratio is 0.40, targeted operating income is $50,000, and fixed costs are
$75,000, then sales volume in dollars is ________.
A) $250,000
B) $312,500
C) $275,000
D) $350,000
10) If the contribution margin ratio is 0.25, targeted operating income is $50,000, and targeted sales
volume in dollars is $250,000, then total fixed costs are ________.
A) $11,500
B) $15,000
C) $20,000
D) $12,500
11) Fixed costs ________.
A) are considered variable costs over the long run
B) provide less operating leverage
C) reduce the risk of loss
D) are graphed as a steeply sloped line
12) When a greater proportion of costs are fixed costs, then ________.
A) a small increase in sales results in a small decrease in operating income
B) when demand is low the risk of loss is high
C) a decrease in sales reduces the total fixed cost per unit
D) a decrease in sales reduces the cost per unit
13) Companies with a greater proportion of direct costs have a greater risk of loss than companies with a
greater proportion of indirect costs.
14) The degree of operating leverage at a specific level of sales helps the managers calculate the effect that
potential changes in sales will have on operating income.
15) If a company increases fixed costs, then the breakeven point will be lower.
16) Companies that are substituting variable costs for fixed costs receive a greater per unit return above
the breakeven point.
17) A company with a higher degree of operating leverage is at greater risk during economic downturns
because of its higher fixed costs.
18) The risk-return tradeoff across alternative cost structures can be measured as operating leverage.
19) If a company has a degree of operating leverage of 4.0, that means a 10% increase in sales will result in
a 40% increase in operating income.
20) When a company has the least fixed costs, the company is operating at a very high operating leverage.
21) Query Company sells pillows for $25.00 each. The manufacturing cost, all variable, is $10 per pillow.
The company is planning on renting an exhibition booth for both display and selling purposes at the
annual crafts and art convention. The convention coordinator allows three options for each participating
company. They are:
1. paying a fixed booth fee of $5,010, or
2. paying an $4,000 fee plus 10% of revenue made at the convention, or
3. paying 20% of revenue made at the convention.
Required:
a. Compute the breakeven sales in pillows of each option.
b. Which option should Query Company choose, assuming sales are expected to be 800 pillows?
22) Auto Tires has been in the tire business for four years. It rents a building but owns all of its
equipment. All employees are paid a fixed salary except for the busy season (April-June), when
temporary help is hired by the hour. Utilities and other operating charges remain fairly constant during
each month except those in the busy season.
Selling prices per tire average $75 except during the busy season. Because a large number of customers
buy tires prior to winter, discounts run above average during the busy season. A 15% discount is given
when two tires are purchased at one time. During the busy months, selling prices per tire average $60.
The president of Auto Tires is somewhat displeased with the company’s management accounting system
because the cost behavior patterns displayed by the monthly breakeven charts are inconsistent; the busy
months’ charts are different from the other months of the year. The president is never sure if the company
has a satisfactory margin of safety or if it is just above the breakeven point.
Required:
a. What is wrong with the accountant’s computations?
b. How can the information be presented in a better format for the president?
23) Dolph and Evan started the DE Restaurant in 20X3. They rented a building, bought equipment, and
hired two employees to work full time at a fixed monthly salary. Utilities and other operating charges
remain fairly constant during each month.
During the past two years, the business has grown with average sales increasing 1% a month. This
situation pleases both Dolph and Evan, but they do not understand how sales can grow by 1% a month
while profits are increasing at an even faster pace. They are afraid that one day they will wake up to
increasing sales but decreasing profits.
Required:
Explain why the profits have increased at a faster rate than sales. Use the terms variable costs and fixed
costs in your response.
24) Freddie’s Company has mostly fixed costs and Valerie’s Company has mostly variable costs. Which
company has the greatest risk of a net loss? Explain why.
25) Suppose a company decided to automate a production line. Explain what effects this would have on a
company’s cost structure using CVP terminology. Could these changes have any possible negative effect
on the firm?
26) If a company has a degree of operating leverage of 3.0 and sales increase by 25%, then ________.
A) total fixed costs will increase by 75%
B) total costs will increase by 75%
C) profit will increase by 30%
D) profit will increase by 75%
27) If a company would like to increase its degree of operating leverage it should ________.
A) increase its sales relative to its fixed costs
B) increase its sales relative to its variable costs
C) increase its variable costs relative to its fixed costs
D) increase its fixed costs relative to its variable costs
Objective 3.7
Answer the following questions using the information below:
The following information is for Alex Corp:
Product X: Revenue $15.00
Variable Cost $2.50
Product Y: Revenue $25.00
Variable Cost $10.00
Total fixed costs $50,000
1) What is the breakeven point assuming the sales mix consists of two units of Product X and one unit of
Product Y?
A) 1,000 units of Y and 2,000 units of X
B) 1,113 units of Y and 2,025 units of X
C) 2,313 units of Y and 4,025 units of X
D) 1,250 units of Y and 2,500 units of X
2) What is the operating income, assuming actual sales total 150,000 units, and the sales mix is two units
of Product X and one unit of Product Y?
A) $1,950,000
B) $1,850,000
C) $1,750,000
D) $2,150,000
3) ) If the sales mix shifts to one unit of Product X and two units of Product Y, then the weighted-average
contribution margin will ________.
A) increase per unit
B) stay the same
C) decrease per unit
D) decrease by $0.50 per unit
4) If the sales mix shifts to one unit of Product X and two units of Product Y, then the breakeven point
will ________.
A) increase
B) stay the same
C) decrease
D) will be greater than the original breakeven point
Answer the following questions using the information below:
The following information is for the Jeffries Corporation:
Product A: Revenue $16.00
Variable Cost $12.00
Product B: Revenue $24.00
Variable Cost $16.00
Total fixed costs $75,000
5) What is the breakeven point, assuming the sales mix consists of three units of Product A and one unit
of Product B?
A) 10,000 units of A and 5,000 units of B
B) 11,250 units of A and 3,750 units of B
C) 12,000 units of A and 4,000 units of B
D) 4,000 units of A and 12,000 units of B
6) What is the operating income of Jeffries Corporation, assuming actual sales total 25,000 units, and the
sales mix is three units of Product A and one unit of Product B?
A) $50,000
B) $60,000
C) $77,000
D) $66,000
7) If the sales mix shifts to four units of Product A and one unit of Product B, then the weighted-average
contribution margin will ________.
A) increase per unit
B) stay the same
C) decrease per unit
D) either increase or stay the same
8) If the sales mix shifts to four units of Product A and one unit of Product B, then the breakeven point
will ________.
A) increase
B) stay the same
C) decrease
D) either decrease or remain same
9) Assuming a constant mix of 3 units of X for every 1 unit of Y.
X Y Total
Sales $25 $40
VC 18 22
Total fixed costs $78,000
The breakeven point in units would be ________.
A) 6,000 units of X and 2,000 units of Y
B) 12,000 units of X and 4,000 units of Y
C) 5,200 units of X and 1,800 units of Y
D) 3,600 units of X and 1,200 units of Y
10) In multiproduct situations, when sales mix shifts toward the product with the lowest contribution
margin then ________.
A) total revenues will increase
B) interest cost will decrease
C) total contribution margin will increase
D) operating income will decrease
11) Sales mix is the quantities or proportion of various products or services that constitute a company’s
total unit sales.
12) If the sales mix shifts toward the lower-contribution-margin product, the breakeven quantity will
decrease.
13) In multiproduct situations, when sales mix shifts toward the product with the lowest contribution
margin, the operating income will be lower.
14) In multiproduct situations when sales mix shifts toward the product with the highest contribution
margin, operating income will be higher.
15) To calculate the breakeven point in a multiproduct situation, one must assume that the sales mix of
the various products remains constant.
16) If a company’s sales mix is 2 units of product A for every 3 units of product B, and the company sells
3,000 units in total of both products, only 2,000 units of product A will be sold.
17) Ken’s Beer Emporium sells beer and ale in both pint and quart sizes. If Ken’s sells twice as many pints
as it sells quarts, and sells 2,400 items total, it will sell 800 quarts of ale.