Let's go through each of the questions step by step:

1. What is the product’s CM ratio?

CM ratio = (Contribution Margin / Sales) * 100

CM ratio = ($240,000 / $400,000) * 100

CM ratio = 60%

2. Use the CM ratio to determine the break-even point in dollar sales.

Break-even sales = Fixed Expenses / CM ratio

Break-even sales = $180,000 / 0.60

Break-even sales = $300,000

3. If this year’s sales increase by $75,000 and fixed expenses do not change, how much will net operating
income increase?

Net operating income increase = (Increase in Sales * CM ratio)

Net operating income increase = ($75,000 * 60%)

Net operating income increase = $45,000

4a. What is the degree of operating leverage based on last year’s sales?

Degree of Operating Leverage (DOL) = (Contribution Margin / Net Operating Income)

DOL = $240,000 / $60,000

DOL = 4

4b. Assume the president expects this year’s sales to increase by 20%. Using the degree of operating
leverage from last year, what percentage increase in net operating income will the company realize this
year?

Percentage increase in net operating income = (DOL * Percentage increase in sales)

Percentage increase in net operating income = (4 * 20%)

Percentage increase in net operating income = 80%

5. The sales manager is convinced that a 10% reduction in the selling price, combined with a $30,000
increase in advertising, would increase this year’s unit sales by 25%. If the sales manager is right, what
would be this year’s net operating income if his ideas are implemented? Do you recommend
implementing the sales manager’s suggestions?

First, calculate the new unit selling price:

New selling price = $20 - (10% * $20) = $18

New unit sales = (25% increase from last year) * (last year's unit sales)

New unit sales = 1.25 * (Sales / Selling price) = 1.25 * ($400,000 / $18)

New contribution margin = (Selling price - Variable expenses)

New contribution margin = ($18 - $8) = $10

New total contribution = (New unit sales * New contribution margin)

New total contribution = (1.25 * ($400,000 / $18)) * $10

New net operating income = (New total contribution - Fixed expenses - Increased advertising)

New net operating income = [1.25 * ($400,000 / $18) * $10] - $180,000 - $30,000

You can calculate this value to find the new net operating income. Whether to recommend
implementing the sales manager's suggestions depends on whether the increase in net operating
income is acceptable to the company.

6. The president does not want to change the selling price. Instead, he wants to increase the sales
commission by $1 per unit. He thinks that this move, combined with some increase in advertising, would
increase this year’s sales by 25%. How much could the president increase this year’s advertising expense
and still earn the same $60,000 net operating income as last year?

Let A be the increase in advertising expenses.

New contribution margin per unit = (Contribution margin per unit - Increase in commission per unit)

New contribution margin per unit = ($20 - $8 - $1) = $11

New unit sales = (25% increase from last year) * (last year's unit sales)
 New unit sales = 1.25 * (Sales / Selling price) = 1.25 * ($400,000 / $20)

New total contribution = (New unit sales * New contribution margin per unit)

New total contribution = (1.25 * ($400,000 / $20)) * $11

To maintain the same net operating income as last year, the new total contribution should cover the
fixed expenses and the increased advertising expense:

New total contribution - Fixed expenses - A = $60,000

[1.25 * ($400,000 / $20) * $11] - $180,000 - A = $60,000

Solve for A to find out how much the president could increase advertising expenses while earning the
same net operating income.