[juaco_aaron]

I am asked to write a memorandum explaining how a company could report net income when it sold less than its break-even volume in units. Here's the info. :

"In the company's planning documents, John, the company's president reports that the break-even volume (in units) for the company is 21,739 units. This break-even point is computed as follows.

break-even volume= total fixed cost/ contribution margin per unit
$500,000 / $23 = 21,739 units

Total fixed cost consists of $300,000 in fixed production cost and $200,000 in fixed selling and administrative expenses. The contribution margin per unit of $23 is computed by deducting the $17 variable cost per unit (which consists of $15 in variable production cost and $2 in variable selling and administrative cost) from $40 sales price per unit. In 2007, the company sold 20,000 units, which was below break-even, and John was concerned that the company's income statement would show a net loss. To his surprise, the company's 2007 income statement revealed a net income of $60,000."

I don't really know how to explain this... because I don't understand how can this happen. Please, if any of you guys can help I will REALLY appreciate it.

[Greentree101]

haha try this.

1. First, you need to do an analysis on how much the company should loss based on the planning documents.

(20,000 units * estimated contribution margin) - fixed cost = (20,000*23) - 500,000= that will give you a loss of -40,000.

meaning, based on their estimation with 20,000 unit sold, they will get a loss of -40,000.

2. Find out how come there is a gain of $60,000 on the actual reports.

(20,000*actual CM)-500,000=60,000. Do the math, you should get a CM of $28/Unit.

If the price of $40/ unit remain unchange, then the Variable cost changed from 17 to 12, because that will give you a CM of (40-12=28).

The conclusion is that all others thing remain unchanged, but the variable cost went down therefore, the CM went up.

Do you understand?