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 Subject: Net Income Category: Business and Money > Accounting Asked by: gofigure99-ga List Price: \$10.00 Posted: 25 Jul 2005 07:03 PDT Expires: 24 Aug 2005 07:03 PDT Question ID: 547579
 ```I have 3 products; #1, #2, and #3. Unit sales for #1 are 50,000 with a selling price of \$28, variable manufacturing cost per unit of \$13, and a variable selling cost of \$5. Unit sales for #2 are 50,000, selling price is \$36, variable manufacturing cost/unit \$12, and variable selling cost per unit of \$4. Unit sales for #3 are 100,000, selling price is \$48, Variable manufacturing cost/unit \$25 and variable selling cost per unit of \$6. I assume a fixed manufacturing overhead of \$2,000,000 and a fixed selling and admin exp of \$600,000 with a tax rate of 40%. What would be the budgeted net income for next year? and assuming all remains the same, how many of each item need to be sold to break even?``` Request for Question Clarification by omnivorous-ga on 25 Jul 2005 07:30 PDT ```Gofigure99 -- This is a fairly straightforward budgeting problem, except for one aspect of the question: "how many of each item need to be sold to break even?" Understand that there are an infinite number of mixes of #1/#2/#3 possible to achieve this. . . Best regards, Omnivorous-GA```
 ```Gofigure99 ? It?s helpful in this situation to understand the contribution margin for each product, as it tells you what the gross profits are for each: Investopedia ?Contribution margin,? (undated) http://www.investopedia.com/terms/c/contributionmargin.asp Contribution margins for each product are: #1: \$10 #2: \$20 #3: \$17 Thus, at the volumes stated, each of the products is producing the following contribution to all overhead costs: #1: \$10 * 50,000 units = \$500,000 #2: \$20 * 50,000 units = \$1,000,000 #3: \$17 * 100,000 units = \$1,700,000 Total gross profits are \$3,200,000. But for net income we have to subtract the overhead and taxes: Gross profits . . . . \$3,200,000 Mfrg overhead . . . \$2,000,000 Fixed admn/sales . \$ 600,000 Profit before tax . . \$ 600,000 Taxes (@ 40%) . . \$ 240,000 NET INCOME . . . \$ 360,000 So that?s your budget net income for this year and next: \$360,000. SENSITIVITY ANALYSIS ==================== One of the reasons that contribution margin is so useful is that it gives you the sensitivity that changes in your sales will have on profits. It?s easiest to look at profit before tax because at breakeven, you?ll pay no tax. Three examples here: #1: What if sales of product #1 drop by 50,000 units? It?s contributing \$500,000 in profits ? so the firm would still be marginally profitable, making \$2.7 million on the other 2 products and covering all fixed costs. #2: What if sales of product #2 drop by 30,000 units to only 20,000 sold? The lost 30,000 units would contribute \$600,000 ? putting the firm at breakeven. So, this is one of an infinite number of solutions for breakeven: 50,000 units of #1; 20,000 units of #2; and 100,000 units of #3. #3: What if sales of product #3 drop by 35,294 units to only 64,706? The profits would drop by \$599,998 ? so the firm would be at ?virtual breakeven.? (I realize that it would make \$2.) So that?s another solution: 50,000 units of #1 and #2 and 64,706 of #3. And, of course, we can change any of the volumes for each product to decrease the profit before taxes by \$600,000, providing an infinite number of solutions. Google search strategy: ?contribution margin? Best regards, Omnivorous-GA``` Request for Answer Clarification by gofigure99-ga on 25 Jul 2005 08:27 PDT ```In this example I want to assume that the sales mix remains as budgeted in order to determine how many units of each product need to be sold to break even.``` Clarification of Answer by omnivorous-ga on 25 Jul 2005 09:26 PDT ```Gofigure99 ? If the mix is to remain the same in UNITS, then it becomes a question of what equal volume drop erases the \$600,000 gross profit. Note that because the sales prices are all different, this will change the mix percentages in REVENUES. So the question is, what is X when we have a contribution of the following producing \$600K in gross profits? (And will we be lucky enough to have it come out to an even number?) \$10 * x + \$20 * x + \$17 * x = \$600,000 \$47 * x = \$600,000; x = 12,766 (actually this produces a \$2 loss because the units don?t divide evenly) So, if volumes drop to the following levels, you preserve your mix in units but are at breakeven: #1: 50,000 ? 12,766 = 37,234 #2: 50,000 ? 12,766 = 37,234 #3: 100,000 ? 12,766 = 87,234 Best regards, Omnivorous-GA```
 gofigure99-ga rated this answer: `Thanks Om.....`