A and F-Using Accounting Info Tcm4-117030

NATIONAL QUALIFIC ATIONS CURRICULUM SUPPORT
Accounting and
Finance
Using Accounting
Information
Break-even Analysis
Profit Maximisation
Financial Analysis
[INTERMEDIATE 2]
Dorothy Brown
INT RO DUCT IO N
First published 1998

Electronic version 2002
Scottish Consultative Council on the Curriculum 1998
This publication may be reproduced in whole or in part for educational purposes by
educational establishments in Scotland provided that no profit accrues at any stage.
Acknowledgement
Learning and Teaching Scotland gratefully acknowledge this contribution to the
National Qualifications support programme for Accounting and Finance.
ISBN 1 85955 653 1
Learning and Teaching Scotland
Gardyne Road
Dundee
DD5 1NY
www.LTScotland.com
HIS TORY
CONTENTS
Section One
Break-even Analysis
1-53
Section Two
Profit Maximisation
57-94
Section Three
Financial Analysis
97-144
ACC OUNT IN G AND F IN ANC E
IV
INTRODUCTION
This publication contains both summary notes and a range of computational

exercises covering break-even analysis, profit maximisation and financial
analysis. It also includes questions covering the underpinning knowledge and
understanding of the unit and suggested solutions to all questions and
exercises. At the end of each section, there are extension exercises which are
designed to stretch more able students and take them in the direction of
Higher level. The exercises are not intended to be used for assessment
purposes.
The publication is targeted at students who are undertaking the Higher Still
Using Accounting Information Unit at Intermediate 2 level. It covers the
basic knowledge required in dealing with break-even analysis, limiting
factors for profit maximisation and ratio calculation for financial analysis.
Teachers and lecturers are expected to augment these as, where and when they
deem it appropriate.
For simplicity of use the publication has been divided into three sections:
Section One - Break-even Analysis
Section Two - Profit Maximisation
Section Three - Financial Analysis
Section One
Break-even Analysis
Contents
Break-even analysis - summary notes, example, tasks and
suggested solutions
1-6
Break-even charts - summary notes, example, tasks and suggested

solutions
7-9
Exercises 1-6 with suggested solutions
10-18
Contribution and profit in break-even analysis - summary notes,

examples, tasks with suggested solutions
19-27
Break-even analysis - theory questions with suggested solutions
28-30
31-47
Extension exercises 1-3 with suggested solutions
48-53
BR EAK- EVEN ANALYS IS
SECTION ONE
Break-even point
What is meant by the term break even? A firm breaks even when income is
sufficiently high to exactly cover total costs therefore neither a profit nor a
loss is made. However, break-even analysis is not usually applied to the
whole firm but rather to a single product, studying its profitability by
comparing its estimated revenue and costs.
Break-even analysis does more than just estimate the break-even point (BEP):
it also shows how much profit or loss should be made at various levels of
activity. It is therefore seen as a valuable tool for the management
accountant. To use break-even analysis several assumptions must be made:
there is only one product

all costs can be classified as either fixed or variable
costs remain constant over the whole range of output
selling price remains constant for the whole range of output
production is equal to sales so there is no adjustment for stock figures
there are no changes in materials, labour, design or manufacturing
methods.
Revision point:
Fixed costs are those that do not change with changes in production levels,
e.g. rent.
Variable costs vary in proportion to changes in production levels, e.g. raw
materials.
A simple table can be drawn up to show:
increasing levels of activity

estimated costs of production at these levels
estimated revenue at these levels
the resulting profit/loss for each level.
B RE AK- E VE N ANALYS IS
Example 1
The following figures have been supplied by A Gardiner, who is considering
making plant pots. He is particularly concerned to know how many he must
make before the product becomes profitable.
Total fixed costs
1,000
Variable costs per unit
Selling price per unit
We can draw up a table to show the information.

Units of
output
Fixed
costs
Variable
costs
Total
costs
Sales
revenue
Profit
(loss)
1,000
1,000
(1,000)
100
1,000
300
1,300
800
(500)
200
1,000
600
1,600
1,600
300
1,000
900
1,900
2,400
500
400
1,000
1,200
2,200
3,200
1,000
500
1,000
1,500
2,500
4,000
1,500
At an output of 200 units, where both sales revenue and total costs amount to
1,600, he is making neither a profit nor a loss on the plant pots.
Any output below 200 units will result in a loss.
Any output above 200 units will result in a profit.
Break-even point is therefore at a sales volume of 200 units and a sales
revenue of 1,600.
AC C OUNTING AND FINA NC E
Profit/loss
Profit/loss (the difference between sales revenue and total costs) at various
output levels is shown in the final column of the table on p. 2. At 100 units
of output the loss is (500) and at 400 units of output a profit of 1,000 is
made. Break-even analysis is thus useful in forecasting profit/loss figures for
different production levels.
Margin of safety
Output above BEP which gives a profit is the margin of safety. This margin
can be measured by comparing the level of output with BEP and it can be
expressed in units or in sales revenue.
Units of
BEP
output (units)
Margin of safety Selling price

(units)
per unit
Margin of safety
(sales revenue)
300
200
100
800
400
200
200
1,600
500
200
300
2,400
The margin of safety in sales revenue can also be calculated by comparing the
sales revenue for the output level with the sales revenue at BEP.
Sales
revenue
BEP
(sales revenue)
Margin of safety
2,400
1,600
800
3,200
1,600
1,600
4,000
1,600
2,400
Formulae:
Margin of safety (units)
= actual units BEP units
Margin of safety (revenue) = actual revenue BEP revenue

or
actual units BEP units x selling price per unit
Task 1
Use the following information supplied by Julie Carter to complete the table
and answer the questions that follow.
Total fixed costs
Variable costs per unit:
materials
wages
12,000
7
5

Units of
output
Fixed
costs
12
20
Variable
costs
Total
costs
Sales
revenue
Profit
(loss)
0
500
1,000
1,500
2,000
2,500
3,000
(a)
What is the break-even point in units and sales revenue?
(b)
What is the margin of safety (in units and sales revenue) at an output of
2,000 units?
(c)
How much is the profit when 3,000 units are produced?
Task 2
Julie is considering reducing the selling price to 18 per unit although the
costs would remain unchanged. Draw up another table to show the effect of
this change on the figures then answer the following questions.
(a)
What is the break-even point in units and sales revenue?
(b)
What is the margin of safety (in units and sales revenue) at an output of
2,500 units?
(c)
How much is the profit at an output of 2,500 units?
Suggested solution to Task 1

Units of
output
Fixed
costs
Variable
costs
Total
costs
Sales
revenue
Profit
(loss)
12,000
12,000
(12,000)
500
12,000
6,000
18,000
10,000
(8,000)
1,000
12,000
12,000
24,000
20,000
(4,000)
1,500
12,000
18,000
30,000
30,000
2,000
12,000
24,000
36,000
40,000
4,000
2,500
12,000
30,000
42,000
50,000
8,000
3,000
12,000
36,000
48,000
60,000
12,000
(a) Break-even point
= 1,500 units or 30,000 sales revenue.
(b) Margin of safety at 2,000 units = 2,000 1,500 = 500 units

500 units x 20 = 10,000 sales revenue
(c) Profit at 3,000 units
= 12,000

Units of
output
Fixed
costs
Variable
costs
Total
costs
Sales
revenue
Profit
(loss)
12,000
12,000
(12,000)
500
12,000
6,000
18,000
9,000
(9,000)
1,000
12,000
12,000
24,000
18,000
(6,000)
1,500
12,000
18,000
30,000
27,000
(3,000)
2,000
12,000
24,000
36,000
36,000
2,500
12,000
30,000
42,000
45,000
3,000
3,000
12,000
36,000
48,000
54,000
6,000
(a)
Break-even point
2,000 units or 36,000 sales revenue
(b)
Margin of safety
2,500 2,000 units = 500 units

500 units x 20 = 10,000 sales revenue
(c)
Profit at 2,500 units
3,000
Break-even charts
A chart is a simple method of conveying information, particularly where there
are many figures to be read. A line chart is considered the most suitable way
of showing the data in the previous tables.
A break-even chart displays the following details:
fixed costs shown as a horizontal line
total costs (fixed + variable costs) shown as a straight line sloping
upwards from the start of the fixed costs line
revenue (sales) an upward sloping line starting from the origin (indicated
by 0) of the graph where no output results in no revenue.
It has been constructed from the table on page 2, and shows fixed costs, total
costs, revenue lines and the BEP.
Break-even point is where the sales revenue and total costs lines cross.
The area of profit/loss at any level of output can be measured between the
sales revenue and total costs lines:
the area of profit, known as the margin of safety, is to the right of breakeven point
the area of loss is to the left of break-even point.
Constructing a break-even chart

Before a break-even chart is produced, the following points should be
considered:
the level of activity is always shown on the horizontal axis and it must
allow for all levels of production to be shown
sales revenue and costs (in ) are shown on the vertical axis: the scale
chosen should allow for the highest possible figure (usually the highest
sales figure)
the chart must have a title
the axes (vertical and horizontal) must be clearly labelled
a key must be shown to identify each line (or the lines can be labelled)
the sales revenue line will always begin at the origin of the graph
(no sales = no revenue)
the fixed costs line is horizontal (fixed costs do not change with changes in
production levels)
the total costs line starts at the same point as the fixed costs line
the break-even point must be clearly labelled.
Task 3
(a)
Using graph paper, draw a break-even chart to illustrate the figures in

the table for Task 1 (p. 4). Label clearly the fixed costs, total costs and
revenue lines and the break-even point.
(b)
On the same chart, add the new sales revenue line for the figures in
Task 2 (p. 5), showing the new break-even point.
Suggested solution to Task 3(a)
Suggested solution to Task 3(b)
Break-even charts: exercises

Exercise 1
(a)
Using the data given below prepare a break-even chart to show fixed
costs, total costs, sales and break-even point.
Data
Total fixed costs
Projected output levels
(b)
From your chart find the break-even point in

(i)
(c)
4,000
15
25
100700 units
units of output
(ii)
sales value.
Find the profit at output levels of 500 and 700 units.
Exercise 2
(a)
Using the data given below prepare a break-even chart to show fixed
costs, total costs, sales and break-even point.
Data
Total fixed costs
(b)

(i)
(c)
10
48,000
12
24
1,0007,000 units
units of output
(ii)
sales value
Find the profit at outputs of 5,000 and 7,000 units.
Exercise 3
(a)
Prepare a break-even chart to show fixed costs, total costs and sales
revenue lines. Indicate the break-even point.
Data
materials
labour

Total fixed costs
(b)
10
15
40
60,000
1,0008,000 units

(i)
units of output
(ii)
sales value
(c)
Find the profit expected at outputs of 6,000 and 8,000 units.
(d)
Management are considering increasing the selling price to 45 per unit.

Add this new sales line to your chart and show the new break-even
point.
(e)
State the new break-even point in

(i)
(f)
units of output
(ii)
sales value
Find the new profit expected at outputs of 4,000 and 6,000 units.
11
Exercise 4
(a)
Using the following information prepare a break-even chart, labelling

break-even point.
Data
Total fixed costs
materials
wages

(b)
1,0007,000 units
40,000
12
10
30

(i)
units of output
(ii)
sales value
(c)
Find the profit expected at outputs of 6,000 and 7,000 units.
(d)
It may be possible to reduce the cost of materials to 10 per unit. Add

the new total costs line to your chart and show the new break-even
point.
(e)
State the new break-even point in

(i)
(f)
12
units of output
(ii)
sales value
Find the new profit expected at outputs 5,000 and 7,000 units.
Exercise 5
Study the break-even chart below and answer the questions that follow.
(a)
How much are the fixed costs?
(b)
What is the total variable cost of making 100 units?
(c)
What is the total cost of producing
(d)
What revenue is received from
(e)
Give the break-even point in units of output and in sales revenue.
(f)
Find the profit made at the following levels of output: 500 units, 600
units and 700 units.
(i) 100 units

(ii) 300 units?
(i) 200 units
(ii) 500 units?
13
Exercise 6
Study the break-even chart below and answer the questions that follow.
(a)
How much are the fixed costs?
(b)
What is the total variable cost of making 300 units?
(c)
What is the total cost of producing (i) 300 units

(ii) 600 units?
(d)
What revenue is received from (i) 300 units

(ii) 600 units?
(e)
Give the break-even point in units of output and in sales revenue.
(f)
Find the profit made at the following levels of output: 700 units and 800
units.
14
Break-even charts: suggested solutions to exercises

Exercise 1
(a)
(b)
Break-even point
= 400 units; 10,000
(c)
Profit at 500 units

Profit at 700 units
= 1,000
= 3,000
Exercise 2
(a)
(b)
Break-even point
= 4,000 units; 96,000
(c)
Profit at 5,000 units = 12,000

Profit at 7,000 units = 36,000
15
Exercise 3
(a)
(b)
Break-even point
= 4,000 units; 160,000
(c)

= 30,000
= 60,000
(e)
Break-even point
= 3,000 units; 120,000
(f)

= 20,000
= 60,000
(d)
16
Exercise 4
(a)
(b)
Break-even point
= 5,000 units; 150,000
(c)

= 8,000
= 16,000
(d)
(e)
New break-even point = 4,000 units; 120,000
(f)

= 10,000
= 30,000
17
Exercise 5
(a)
Total fixed costs
= 4,000
(b)
Variable cost of 100 units
= 1,000
(c)
Total cost of 100 units

= 5,000
= 7,000
(d)
Revenue from 200 units

= 3,600
= 9,000
(e)
Break-even point
= 500 units; 9,000
(f)
Profit at 500 units

Profit at 600 units
Profit at 700 units
= 0
= 800
= 1,600
Exercise 6
(a)
Total fixed costs
= 6,000
(b)
Variable cost of 300 units
= 6,000
(c)

= 12,000
= 18,000
(d)

= 9,000
= 18,000
(e)
Break-even point
= 600 units; 18,000
(f)
Profit at 700 units

Profit at 800 units
= 1,000
= 2,000
18
Contribution in break-even analysis calculation of

BEP
Although break-even charts are easily produced and interpreted, it is not
necessary to have a chart to find the profitability of a product at different
output levels. This can be done by simple calculation.
The word contribute is familiar in its usual meaning of give or donate.
In break-even analysis the word contribution is used for the amount which
the sale of each unit gives towards meeting the fixed costs. In other words,
the amount left over after meeting the variable costs can be put towards the
fixed costs. Once the fixed costs have been covered, that contribution
becomes profit.
Example
Lightwell makes lamps and is investigating the profitability of producing a
new design. The following figures are available.
Estimated variable cost per lamp 40
Selling price per lamp
60
Total fixed costs
4,000
(a)
How much is the contribution per lamp?

Contribution per lamp
(b)
= selling price variable costs

= 60 40
= 20
If each lamp can contribute 20 towards meeting the fixed costs, how
many lamps need to be sold in order to break even?
Break-even point (BEP) =
=
fixed costs
unit contribution
4,000
20
= 200 lamps
(c)
What is the sales revenue of these lamps?

BEP in sales revenue
= selling price number of lamps

= 60 200 lamps
= 12,000
19
Check:
Sales revenue of 200 units
Less variable cost of 200 units
= 60 200
= 40 200
= 12,000
= 8,000
Total contribution from 200 units
= 12,000 8,000
4,000
4,000
Fixed costs
At break-even point, total contribution equals total fixed costs .

Formulae:
BEP (units)
= fixed costs/unit contribution
BEP (revenue)
= fixed costs/unit contribution x selling price per unit
20
Task 4
Complete the figures in the following table.
Firm Selling price Variable cost Contribution
per unit
per unit
per unit
Fixed
BEP
BEP
costs (units) (revenue)
30
15
15,000
5,000
4,000
140
90
50,000
380
260
240,000
21

Firm Selling price Variable cost Contribution
per unit
per unit
per unit
22
Fixed
BEP
BEP
costs (units) (revenue)
30
15
15
15,000
1,000
30,000
5,000
2,500
12,500
4,000
4,000
32,000
140
90
50
50,000
1,000
140,000
380
260
80 240,000
3,000 1,140,000

profit
Break-even analysis can be used to estimate profit or loss at various levels of
output. On a break-even chart, the margin of safety is the area to the right of
break-even point where output is greater than break-even point and a profit is
shown. The margin of safety is the excess of sales over break-even point
and can be expressed in sales volume (units) and sales revenue ().
At break-even point fixed costs have been covered therefore in the margin of
safety contribution becomes profit. The calculation of profit is therefore
very simple.
In the Lightwell example on p. 19, break-even point is 200 units therefore
all output above 200 units results in profit. The table below shows how much
profit will be made at output levels of 250, 320, 400, 480 and 550 units.
Output
level
(units)
BEP
(units)
Margin
of safety
(units)
Contribution
per unit
Profit
250
200
50
20
1,000
320
200
120
20
2,400
400
200
200
20
4,000
480
200
280
20
5,600
550
200
350
20
7,000
Check:
Output
level
(units)
Unit
contribution
Total
contribution
Fixed
costs
Profit
250
20
5,000
4,000
1,000
320
20
6,400
4,000
2,400
400
20
8,000
4,000
4,000
480
20
9,600
4,000
5,600
550
20
11,000
4,000
7,000
23

required output
As well as being used to forecast profit or loss at different levels of output,
break-even analysis is also useful in calculating the output required to give a
certain amount of profit. After break-even point, contribution becomes profit
therefore:
total contribution required = fixed costs + desired profit.
Example
M Morrison has provided the following information:
Contribution per unit
30
20
10
Total fixed costs
2,000
(a)
What is the total contribution required to give a profit of 1,000?
(b)
Total contribution required = fixed costs + profit

= 2,000 + 1,000
= 3,000
How many units will give this total contribution?
Total contribution required = 3,000
Unit contribution
= 10
Output required
= 3,000
10
= 300 units
24
Check:
Break-even point
2,000
10
200 units
Profit required
Unit contribution
=
=
1,000
10
Number of profitable units
1,000
10
100 units
=
=
=
break-even point + profitable units

200 + 100 units
300 units
Total output required
25
Task 5
Complete the figures in the following table using the information in the
example on p. 24.
Profit
required
Fixed
costs
Total
contribution
Unit
contribution
Required
output
(units)
1,000
2,000
3,000
10
300
1,800
2,000
10
2,300
10
3,000
3,500
Check:
Required
profit
Unit
contribution
Profitable
output
(units)
Break-even
point
(units)
Required
output
(units)
1,000
10
100
200
300
1,800
10
180
200
2,300
10
3,000
3,500
26
200

Profit
required
Fixed
costs
Total
contribution
Unit
contribution
Required
output
(units)
1,000
2,000
3,000
10
300
1,800
2,000
3,800
10
380
2,300
2,000
4,300
10
430
3,000
2,000
5,000
10
500
3,500
2,000
5,500
10
550
Check:
Required
profit
Unit
contribution
Profitable
output
(units)
Break-even
point
(units)
Required
output
(units)
1,000
10
100
200
300
1,800
10
180
200
380
2,300
10
230
200
430
3,000
10
300
200
500
3,500
10
350
200
550
27
Break-even analysis: theory questions

Question 1
Break-even analysis is seen as a valuable tool for the management accountant.
List 3 of its uses.
Question 2
List 4 assumptions made in the use of break-even analysis.
Question 3
Explain what is meant by the following terms used in break-even analysis:
(a)
(b)
(c)
(d)
unit contribution
margin of safety
break-even point
fixed and variable costs.
Question 4
Describe how each of the following lines can be shown on a break-even chart:
(a)
(b)
(c)
fixed costs
total costs
sales.
Question 5
After break-even point, contribution becomes profit. Explain what is meant
by this statement.
28
Break-even analysis: suggested solutions to theory

questions
Question 1
Three uses of break-even analysis are:
1
to calculate the break-even point in units of output and in sales revenue

for a product
to estimate the profit/loss that will result from any given level of output
to find the level of output needed for a given profit figure.
Question 2
Four assumptions made in the use of break-even analysis are:
1
all costs are either fixed or variable
the selling price remains unchanged for the entire range of output
regardless of different markets and conditions
costs remain unchanged because there are no changes in materials,

wages or methods
there is no adjustment for stock figures because production is equal to

sales.
Question 3
(a)
Unit contribution is the difference between the selling price and the
variable costs of one unit. It is the amount the unit can give towards
meeting the fixed costs and, after fixed costs are covered, towards
profit.
(b)
Margin of safety is the profitable output above break-even point and can
be expressed in units or sales revenue. It is shown to the right of breakeven point on a break-even chart.
(c)
Break-even point is the point at which fixed costs are covered and
neither a profit nor a loss is made. Total contribution is equal to fixed
costs and total revenue is equal to total costs.
(d)
Fixed costs remain unchanged regardless of changes in the level of

production. Variable costs vary in proportion to changes in production
levels.
29
Question 4
(a)
The fixed costs line is horizontal because fixed costs remain constant at
different output levels.
(b)
The total costs line slopes upward to the right from the start of the fixed
costs line.
(c)
The sales line slopes upward to the right from the origin of the graph
where no sales shows no revenue.
Question 5
Contribution is the difference between selling price and variable costs and, in
the first place, goes towards meeting fixed costs. Once fixed costs have been
covered, i.e. at break-even point, any further contribution that arises from
additional sales is profit as only the variable costs have to be met.
30
Contribution in break-even analysis: exercises

Exercise 1
Three firms have supplied the following information:
A Anderson
B Benson
C Cameron

3.00
6.00
4.50
8.50
6.80
11.80
Fixed costs
4,500
6,400
17,500
(a)
Calculate the contribution per unit for each firm.
(b)
For each firm find the break-even point in units of output.
(c)
For each firm find the sales revenue at break-even point.
Exercise 2
A manufacturing firm expects to sell 8,000 units in the next year and has
provided the following figures:
40
22
Total fixed costs
63,000
(a)
Calculate the contribution per unit.
(b)
Find the break-even point in units of output.
(c)
What is the sales revenue of these units?
(d)
What is the margin of safety in

(i) units
(ii) sales revenue ()?
31
Exercise 3
Alert plc installs burglar alarm systems and expects to install 400 units of
System A in the next year. Costs are estimated as follows:
Total fixed costs
81,400

850
480
(a)
(b)
Find the break-even point in units.
(c)
Find the sales revenue of these units.
(d)
What is the margin of safety in

(i) units
(ii) sales revenue ()?
Exercise 4
The following data has been supplied by D Denver, who is considering
manufacturing a new style of shirt:
materials
wages
21.00
Total fixed costs
33,000
6.50
4.50
(a)
Calculate the contribution per shirt.
(b)
(c)
(d)
What is the new contribution per shirt if they could be sold at 22 each?
(e)
Calculate the new break-even point in units at the increased selling

price.
(f)
32
Exercise 5
Novelties plc assembles novel clocks and has estimated the following figures
for a new style:
component parts
wages
34
Total fixed costs
8,960
12
6
(a)
Calculate the contribution per clock.
(b)
(c)
(d)
If the cost of the component parts is increased to 14, what is the new
contribution per unit?
(e)
Find the new break-even point in units and in sales revenue.
Exercise 6
Downies plc makes quilts and has budgeted the following figures for an
output of 20,000 units:
Total fixed costs
198,400

85
54
(a)
Calculate the contribution per quilt.
(b)
Find the break-even point in (i) units and (ii) sales revenue.
(c)
What is the margin of safety in (i) units and (ii) sales revenue?
(d)
If fixed costs were decreased to 179,800 what would be the new breakeven point in (i) units and (ii) sales revenue?
33
Exercise 7
J Jones has supplied the following figures:
materials
wages
expenses
36
15
3
78
Total fixed costs
60,000
(a)
How much is the contribution per unit?
(b)
Find the break-even point in units.
(c)
What would be the sales revenue of these units?
(d)
Calculate the profit at output levels of 3,000 and 4,000 units.
Exercise 8
Outdoor Relaxing plc produces loungers and hopes to sell 1,000 in the
coming year. The following figures are forecast:
52
28
Total fixed costs
13,920
(a)
(b)
Find the break-even point in (i) units and (ii) sales revenue.
(c)
Calculate the profit at output levels of 640 and 720 units.
34
Exercise 9
Deeside Woodworkers produces clocks and the following figures are
available:
80
55
Total fixed costs
12,000
(a)
Calculate the contribution per clock.
(b)
Find the break-even point in units and in sales revenue.
(c)
Calculate the profit achieved at the following output levels: 500 and
600 units.
(d)
If the selling price is increased to 85 while costs remain the same,

what is the new contribution per clock?
(e)
Find the new break-even point in units and in sales revenue.
Exercise 10
A leather company produces briefcases and has provided the following data:
Total fixed costs
19,800

materials
fastenings and locks
wages
30
12
25
139
You are required to find the following:

(a)
contribution per unit
(b)
break-even point in units and in sales revenue
(c)
profit at output levels of 300 and 400 units
(d)
the output level required to give a profit of 7,920.
35
Exercise 11
The following figures relate to ornamental trees supplied by nurserymen J &
M Dawson, who have fixed costs of 6,480:
Selling price per tree
Variable costs per tree
36
20
(a)
Find the contribution per unit.
(b)
(c)
How many trees would need to be sold in order to achieve the following
profit levels: 1,360 and 5,040?
(d)
How much is the profit at output levels of 450 and 580 units?
Exercise 12
Soundsleep plc produces beds which sell at 580 each. The following details
of costs have been supplied:
materials
component parts
wages
80
120
100
Total fixed costs
686,000
(a)
Find the contribution per unit.
(b)
(c)
How many beds would need to be sold in order to achieve the following
profit levels: 16,800 and 64,400?
(d)
How much is the profit at output of 5,000 units?
36
Contribution in break-even analysis: suggested solutions

to exercises
Exercise 1
(a)

(b)
BEP =
(c)
fixed costs
unit contribution
Sales revenue
A Anderson
B Benson
C Cameron
6.00
3.00
3.00
8.50
4.50
4.00
11.80
6.80
5.00
4,500
3
6,400
4
7,500
5
= 1,500
units
= 1,600
units
= 3,500
units
1,500 6
= 9,000
1,600 8.50 3,500 11.80

= 13,600
= 41,300
Exercise 2
(a)
Contribution per unit = selling price variable costs

= 40 22
= 18
(b)
Break-even point
fixed costs
unit contribution
63,000
18
= 3,500 units
(c)
Sales revenue
= 40 3,500 units
= 140,000
(d)
Margin of safety (i)
= sales break-even point

= 8,000 3,500 units
= 4,500 units
(ii)
= 40 4,500 units
= 180,000
37
Exercise 3
(a)

= 850 480
= 370
(b)
Break-even point
fixed costs
unit contribution
81,400
370
= 220 units
(c)
Sales revenue
= 850 220 units

= 187,000
(d)
Margin of safety (i)
= sales break-even point

= 400 220 units
= 180 units
(ii)
38
= 850 180 units

= 153,000
Exercise 4
(a)
Contribution per shirt = selling price variable costs

= 21 11
= 10
(b)
Break-even point
fixed costs
unit contribution
33,000
10
= 3,300 units
(c)
Sales revenue
= 21 3,300 units
= 69,300
(d)
Contribution per shirt = 22 11

= 11
(e)
Break-even point
33,000
11
= 3,000 units
(f)
Sales revenue
= 22 3,000 units
= 66,000
39
Exercise 5
(a)

= 34 18
= 16
(b)
Break-even point
fixed costs
unit contribution
8,960
16
= 560 units
(c)
Sales revenue
= 34 560 units
= 19,040
(d)
New contribution
= 34 20
= 14
(e)
New break-even point =
8,960
14
= 640 units
Sales revenue
40
= 34 640
= 21,760
Exercise 6
(a)
Contribution per quilt
(b)
Break-even point

= 85 54
= 31
(i)
fixed costs
unit contribution
198,400
31
= 6,400 units
(c)
(d)
Margin of safety
(ii)
= 85 6,400 quilts
= 544,000
(i)
= 20,000 6,400 units

= 13,600 units
(ii)
= 85 13,600 units
= 1,156,000
New break-even point (i)
179,800
31
= 5,800 units
(ii)
= 85 5,800
= 493,000
41
Exercise 7
(a)

= 78 54
= 24
(b)
Break-even point
fixed costs
unit contribution
60,000
24
= 2,500 units
(c)
(d)
42
Sales revenue
= 78 2,500 units
= 195,000
Output
level
(units)
BEP
(units)
Margin of
safety
(units)
Profit
3,000
2,500
500
500 24 = 12,000
4,000
2,500
1,500
1,500 24 = 36,000
Exercise 8
(a)
(b)
Break-even point

= 52 28
= 24
(i)
fixed costs
unit contribution
13,920
24
= 580 units
(ii)
(c)
= 52 580 units
= 30,160
Output
level
(units)
BEP
(units)
Margin of
safety
(units)
Profit
640
580
60
24 60 = 1,440
720
580
140
24 140 = 3,360
43
Exercise 9
(a)
Contribution per clock
= 80 55
= 25
(b)
Break-even point
fixed costs
unit contribution
12,000
25
= 480 clocks
Sales revenue
(c)
= 80 480
= 38,400
Output
level
(units)
BEP
(units)
Margin of
safety
(units)
500
480
20
600
480
120
(d)
New contribution
= 85 55
= 30
(e)
New break-even point
12,000
30
= 400 units
Sales revenue
44
= 85 400
= 34,000
Profit
20 25 =
500
120 25 = 3,000
Exercise 10
(a)

= 139 67
= 72
(b)
Break-even point
fixed costs
unit contribution
19,800
72
= 275 units
Sales revenue
(c)
(d)
= 139 275 units

= 38,225
Output
level
(units)
BEP
(units)
Margin of
safety
(units)
Profit
300
275
25
72 25 = 1,800
400
275
125
72 125 = 9,000
Total contribution required = fixed costs + profit

= 19,800 + 7,920
= 27,720
Unit contribution
= 72
Output required
total contribution
unit contribution
27,720
72
= 385 units
45
Exercise 11
(a)

= 36 20
= 16
(b)
Break-even point
fixed costs
unit contribution
6,480
16
= 405 units
Sales revenue
(c)
(d)
46
Fixed
costs
= 36 405 units
= 14,580
Profit
Total
Unit
required contribution contribution
required
Output
required
6,480
1,360
7,840
16
7,840
= 490 units
16
6,480
5,040
11,520
16
11,520
= 720 units
16
Output
level
(units)
BEP
(units)
Margin of
safety
(units)
Profit
450
405
45
16 45 = 720
580
405
175
16 175 = 2,800
Exercise 12
(a)

= 580 300
= 280
(b)
Break-even point
fixed costs
unit contribution
686,000
280
= 2,450 units
Sales revenue
(c)
= 580 2,450 units

= 1,421,000
Fixed
Profit
Total
Unit
costs required contribution contribution
required
686,000
Output
required
16,800
702,800
280
702,800
280
= 2,510
64,400
750,400
280
750,400
280
= 2,680
units
686,000
units
(d)
Output
level
(units)
BEP
(units)
Margin of
safety
(units)
Profit
5,000
2,450
550
280 550 = 154,000
47
Contribution in break-even analysis: extension exercises

Exercise E1
Wondersew produces sewing machines that are sold at 1,200 each. The
following costs are incurred.
Fixed costs
157,500
Variable costs:
materials
component parts
wages
80
350
140
You are required to calculate the following:

(a)
(b)
(c)
(d)
(e)
(f)
(g)
the
the
the
the
the
the
the
contribution per sewing machine

break-even point in units and sales revenue
profit at output levels of 320 and 425 units
output level required to give a profit of 75,600
new contribution per unit if the selling price is reduced to 1,095
break-even point at the new selling price
new output level required to give the same profit of 75,600.
Exercise E2
Scotstoun Display Stands estimates that it can sell 2,000 display stands at
200 each. The costs of production are shown below.
materials
labour
Total fixed costs
96,000
80
40
You are required to find:

(a)
(b)
(c)
(d)
48
the break-even point in units and in sales revenue

the profit at the following levels of production: 1,400 units and 2,000
units
the new break-even point if the selling price is increased by 10%
the new profit at output levels of 1,400 and 2,000 units.
Exercise E3
Stonehaven Clocks makes alarm clocks and has supplied the following
figures.
Output
Total fixed costs
Selling price per clock
Variable costs per clock:
materials
component parts
labour
6,000 clocks
60,000
37
6
4
12
You are required to calculate the following:

(a)
(b)
the break-even point in units and sales revenue

the present profit figure.
Stonehaven Clocks is considering increasing output to 8,000 clocks and

estimates that the cost of materials per unit will be reduced to 5. Calculate:
(c)
(d)
the new break-even point in units and sales revenue

the new profit figure.
49
Contribution in break-even analysis: suggested solutions

to extension exercises
Exercise E1
(a)

= 1,200 570
= 630
(b)
Break-even point
fixed costs
unit contribution
157,500
630
= 250 units
Sales value
(c)
(d)
= 1,200 250 units

= 300,000
Output
level
(units)
BEP
(units)
Margin of
safety
(units)
Profit
320
250
70
630 70 =44,100
425
250
175
630 175= 110,250
Total contribution required = fixed costs + required profit

= 157,500 + 75,600
= 233,100
Unit contribution
= 630
Output required
total contribution
unit contribution
233,100
630
= 370 units
(e)
New contribution
= 1,095 570
= 525
(f)
157,500
525
= 300 units
50
(g)
Total contribution required = 233,100

Unit contribution
= 525
Output required
233,100
525
= 444 units
51
Exercise E2
(a)
Unit contribution
Break-even point =
= 200 120
= 80
fixed costs
unit contribution
96,000
80
= 1,200 units
Sales revenue
(b)
Profit = (output BEP) x unit contribution

Output
(c)
= 1,200 200
= 240,000
1,400 units
2,000 units
1,400 1,200
200 80
16,000
2,000 1,200
800 80
64,000
New selling price

New contribution
= 220
= 220 120
= 100
96,000
100
= 960 units
New sales revenue
(d)
New profit
Output
52
= 960 220
= 211,200
1,400 units
2,000 units
1,400 960
440 100
44,000
2,000 960
1,040 100
104,000
Exercise E3
(a)
Unit contribution
= 37 22
= 15
Break-even point
fixed costs
unit contribution
60,000
15
= 4,000 units
Sales revenue
= 4,000 37
= 148,000
(b)
Profit
=
=
=
=
(c)
New variable costs

New contribution
= 21
= 37 21
= 16
(6,000 BEP) 15
(6,000 4,000) 15
2,000 15
30,000
60,000
16
= 3,750 units
(d)
Sales revenue
= 3,750 37
= 138,750
New profit
=
=
=
=
(8,000 BEP) 16
(8,000 3,750) 16
4,250 16
68,000
53
54
Section Two
Profit Maximisation
Contents
Profit maximisation limiting factor, summary note, tasks, suggested
solutions
57-64
65-88
89-94
PRO FIT MAXIMIS ATIO N
SECTION TWO
Profit maximisation: limiting factor
Most businesses are set up with a view to making a profit, preferably as high
a profit as possible. Maximising profit simply means making as much profit
as possible from the resources available. This is usually achieved by making
as much as can be sold if demand for a product is limited there is no point
in making more even though it may be possible to do so.
Sometimes demand for a product may be high but production may be limited
by factors such as:
scarcity of materials
scarcity of labour
limited machine capacity
limited number of machines
limited space.
These factors are called limiting factors (or key factors). If a limiting factor
exists, management will have to decide which level of output will make most
profit, taking into account the limiting factor. Instead of studying the
contribution per unit, contribution must be considered in the light of the
limiting factor.
Example
Two products, A and B, are being produced and details are as follows:
A

Number of labour hours per unit
Number of units demanded
12
4
10,000
12
2
12,000
Total labour hours available

Total fixed costs
60,000 hours
160,000
57
If demand is to be satisfied the total number of labour hours required would

be:
Product A
Product B
10,000 4
40,000
+ 12,000 2
+ 24,000
= 64,000 hours
The number of labour hours required is 64,000 but only 60,000 labour hours
are available. Since there is a shortage of 4,000 hours, labour is the limiting
factor. How will this problem be solved? Should one or both products be cut
back? B has a lower unit contribution than A so should only B be reduced?
Before a decision is taken, the contribution per labour hour must be
examined.

Number of labour hours
Contribution per labour hour
12
4
3
12
2
6
Only now can the order of priority be decided. Since the product giving the
highest contribution per labour hour is B, the full demand for B will be met
and the production of A will be cut by 4,000 hours. Production will be
planned thus:
1 Product B
24,000 hours/2
= 12,000 units
2 Product A
60,000 24,000 hours = 36,000 hours/4
= 9,000 units
How much profit will be made?
Number of labour hours

Total contribution
Total
36,000
3
3 36,000
108,000
24,000
6
6 24,000
144,000
60,000
252,000
Less fixed costs
160,000
Profit (maximised)
92,000
58
Task 6
Skye Weavers plc produces 2 items, rugs and scarves. Figures available are
as follows:
Total labour hours available
Total fixed costs
20,000
200,000
Product
Rugs
Scarves

Labour hours per unit
80
40
2
5,000
20
8
1
12,000
Use the accompanying worksheet to carry out the following tasks:

(a)
Compare the hours available with the hours required to find the
shortage of labour hours.
(b)
What is the limiting factor for Skye Weavers plc?
(c)
Calculate the contribution per labour hour for each product.
(d)
Show the order of priority for production. Give a reason for your
answer.
(e)
Show how many labour hours would be used in the production of both
rugs and scarves.
(f)
Find the total contribution from rugs and scarves.
(g)
Subtract the total fixed costs to find the profit from production.
(h)
How many scarves and rugs would be made in the hours in (e)?
59
Task 6: worksheet
(a)
Rugs
Scarves
Units demanded
5,000
12,000
..........
..........
Total labour hours required
..........
..........
Total
..........
Labour hours available
..........
Shortage of labour hours
..........
(b)
The limiting factor is ...........................................................................
(c)
........
........
..........
..........
........
........
(d)
Order of priority:
first
second
Reason .................................................................................................
................................................
.............................................................
(e)
Labour hours available for production
..........
..........
(f)

(from (c) above)
........
........
Total contribution
........
........
(g)
(h)
60
20,000
........
Total fixed costs
........
Profit
........
Scarves and rugs made
..........
..........
Suggested solution to task 6
(a)
Rugs
Scarves
Units demanded
5,000
12,000
Total labour hours required
10,000
12,000
22,000
Labour hours available
20,000
Shortage of labour hours
2,000
(b)
The limiting factor is labour hours
(c)
40
12
20
12
(d)
Total
Order of priority:
first:
rugs
second:
scarves
Reason Rugs have higher contribution per labour hour, which is

the limiting factor. The demand for rugs must therefore be
met if possible.
(e)
Labour hours available for production
10,000
10,000
(f)

(from (c) above)
20
12
Total contribution
200,000 120,000 320,000
(g)
(h)
20,000
Total fixed costs
200,000
Profit
120,000
Scarves and rugs made
5,000
10,000
61
Task 7
Islay Woodcarvers plc makes 3 products, X, Y and Z, and has provided the
following information:
Total machine hours available
Total fixed costs
22,000
140,000
Product

Variable cost per unit
Number of machine hours per unit
26
16
1
4,000
48
32
2
6,000
58
40
1.5
5,000
Use the accompanying worksheet to carry out the following tasks:

(a)
Compare the hours available with the hours required to find the
shortage of machine hours.
(b)
What is the limiting factor for Islay Woodcarvers plc?
(c)
Calculate the contribution per machine hour for each product.
(d)
Show the order of priority for production. Give a reason for your
answer.
(e)
Show how many machine hours would be used in the production of each
of the 3 products.
(f)
Find the total contribution.
(g)
Find the total profit.
(h)
How many of each product would be made in the hours in (e)?
62
Task 7: worksheet
X
(a)
Total
Units demanded
.......... .......... ..........
Machine hours per unit
.......... .......... ..........
Total machine hours required
.......... .......... .......... ..........
Machine hours available
..........
Shortage of machine hours
..........
(b)
The limiting factor is ................................................................
(c)
........ ........ ........
.......... .......... ..........
Contribution per machine hour ........ ........ ........

(d)
Order of priority:
first:
second:
Reason .....................................................................................
.................................................................................................
(e)
(f)
Machine hours available for

production
Contribution per machine hour ........ ........ ........

Total contribution
(g)
(h)
.......... .......... .......... ..........
........ ........ ........ ........
Less total fixed costs
........
Profit
........
Number of units made
.......... .......... ..........
63
Suggested solution to task 7
(a)
Units demanded
4,000
6,000
5,000
1.5
Total machine hours required
4,000
12,000 7,500
23,500
Machine hours available
22,000
Shortage of machine hours
1,500
(b)
The limiting factor is machine hours
(c)
10
16
18
1.5
Contribution per machine hour
10
12
(d)
Total
Order of priority:
first:
second: X
third:
Reason: Highest contribution per machine hour must take priority,

followed by second highest if profit is to be maximised
because machine hours are the limiting factor.
(e)
(f)
(g)
(h)
64
Machine hours available for

production
4,000
10,500 7,500
Contribution per machine hour
10
Total contribution
40,000 84,000 90,000 214,000
22,000
12
Less total fixed costs
140,000
Profit
74,000
Number of units made
4,000
5,250
5,000
Limiting factor: exercises

Exercise 1
The total number of labour hours available in AB Components is 20,000. The
firm has provided the following additional figures for products X and Y:
X
(Per unit)
Contribution
Labour hours
4
2
6
2
Units demanded
5,000
7,000

(a)
the labour hours required to meet current demand
(b)
the contribution per labour hour for each product
(c)
the order of priority for production
(d)
the labour hours available for each product
(e)
the number of units of each product that can be made.
65
Exercise 2
The total number of labour hours available in Quality Doors plc is 5,500. The
firm has provided the following additional figures for 2 designs, Georgian
and Victorian:
Georgian
Victorian
(Per unit)
Selling price
Variable costs
Labour hours
150
60
1.5
200
100
2
Units demanded
2,000
1,500

(a)
(b)
the contribution per unit for each product
(c)
(d)
(e)
the labour hours available for each product
(f)
the number of units of each product that can be made.
66
Exercise 3
City Shirts plc produces 3 designs Classic, City and Casual for which
18,000 machine hours are available. The following figures have been
provided:
(Per unit)
Selling price
Variable cost
Machine hours
Units demanded
Classic
City
Casual
28
13
0.5
30
16
0.5
22
10
0.5
10,000
12,000
16,000

(a)
the machine hours required to meet current demand
(b)
(c)
the contribution per machine hour for each product
(d)
(e)
the machine hours available for each style
(f)
the number of units of each style that can be made.
67
Exercise 4
County Suits plc produces 3 designs Kelso, Selkirk and Melrose for which
2,200 machine hours are available. The following figures have been
provided:
Kelso
Selkirk
Melrose
(Per unit)
Selling price
Variable cost
Machine hours
360
180
5
280
140
3.5
250
100
3
Units demanded
200
300
180

(a)
(b)
(c)
(d)
(e)
(f)
the number of units of each style that can be made.
68
Exercise 5
Scottish Greenhouses plc makes 2 products Dunkeld and Aberfeldy. Total
fixed costs are 400,000 and 5,000 labour hours are available. The following
figures are available:
Dunkeld
Aberfeldy
1,200
600
5
800
360
4
400
800
(Per unit)
Selling price
Variable costs
Labour hours
Units demanded
(a)
(b)
(c)
(d)
(e)
the labour hours available for each style
(f)
the number of units of each style that can be made
(g)
the total contribution
(h)
the profit after deduction of fixed costs.
69
Exercise 6
Rockers Ltd makes 2 styles of chair Relax and Relax-plus for which 1,800
machine hours are available. Total fixed costs amount to 30,000. The
following additional information has been provided:
Relax
Relax-plus
(Per unit)
Selling price
Variable costs
Machine hours
130
70
1.5
150
90
2
Units demanded
800
400

(a)
(b)
(c)
(d)
(e)
(f)
(g)
(h)
70
Exercise 7
Caledonian Souvenirs produces 3 quality souvenirs, Moray, Dornoch and
Beauly. They are all hand-made and a total of 8,000 labour hours is
available. Total fixed costs amount to 180,000.
Sales demand for the products is expected to be:
Moray
Dornoch
Beauly
2,000 units
1,600 units
1,000 units.
The following figures are also available:

(Per unit)
Selling price
Variable costs
Labour hours
Moray
Dornoch
Beauly
120
60
2
200
110
1.5
150
80
2

(a)
(b)
(c)
(d)
(e)
(f)
(g)
(h)
71
Exercise 8
West Coast Models plc has a labour supply with a limit of 2,020 hours
available. It produces 3 different model boats Class 1, Class 2 and Class 3
and its fixed costs amount to 8,000.
The following figures have also been supplied:
(Per unit)
Selling price
Variable cost
Labour hours
Units demanded
Class 1
Class 2
Class 3
480
300
20
420
240
18
320
200
15
20
40
80

(a)
(b)
(c)
(d)
(e)
(f)
(g)
(h)
72
Exercise 9
Troon Models, which has a total of 7,000 machine hours available, produces 3
items, coded A, B and C. Total fixed costs are 90,000.
The following figures have been supplied:
A
(Per unit)
Selling price
Variable cost
Machine hours
12
8
0.25
30
15
0.5
24
12
0.5
Units demanded
6,000
8,000
4,000

(a)
(b)
(c)
(d)
(e)
(f)
(g)
(h)
73
Exercise 10
The expected demand for the toys made by Terry & Son is as follows:
Model 100:
Model 200:
Model 300:
2,000 units
5,000 units
4,000 units
Two machines are available, each with a capacity limited to 3,000 hours per
year. Total fixed costs amount to 70,000.
The following figures have also been supplied:
Model 100
Model 200
Model 300
25
15
0.5
20
12
0.25
42
26
1
(Per unit)
Selling price
Variable cost
Machine hours

(a)
(b)
(c)
(d)
(e)
(f)
(g)
(h)
74
Exercise 11
The following information has been supplied by Davidson & Williams:
total fixed costs: 40,000
labour hours available: 6,500
Product
(Per unit)
Selling price
Variable cost
Labour hours
40
20
2
10
6
0.5
18
12
1
8
3
0.25
Units demanded
1,000
3,000
2,200
4,800

(a)
(b)
(c)
(d)
(e)
(f)
(g)
(h)
75
Exercise 12
Conservatory Decor makes 4 styles of candleholder single, 2-candle,
3-candle and 5-candle and it has a total of 1,400 machine hours available.
Fixed costs amount to 14,000. The following additional figures have been
supplied:
Single
2-candle
3-candle
5-candle
(Per unit)
Machine hours
Variable cost
Selling price
0.25
8
15
0.25
13
18
0.5
15
26
0.5
18
30
Units demanded
1,600
600
1,400
500

(a)
(b)
(c)
(d)
(e)
(f)
(g)
(h)
76
Limiting factor: suggested solutions to exercises

Exercise 1
X
(a)
Labour hours required
(b)

4
2
6
2
Contribution per labour

hour
4
2
6
2
Total
2 hours 5,000 2 hours 7,000

10,000 hours
14,000 hours
24,000 hours
(c)
First:
Y (highest contribution per labour hour)
Second: X
(d)
Labour hours
available
(e)
Units produced
6,000 hours
14,000 hours
(20,000 14,000)
6,000 hours
2 hours
3,000 units
20,000 hours
14,000 hours
2 hours
7,000 units
77
Exercise 2
Georgian
Victorian
Total
(a)
Labour hours required 1.5 hours 2,000 2 hours 1,500

3,000 hours
3,000 hours
6,000 hours
(b)

(selling price variable
costs)
150 60
200 100
90
100
(c)
Contribution per
labour hour
90
1.5 hours
60
100
2 hours
50
(d)
First:
Georgian (highest contribution per labour hour)
Second: Victorian
(e)
Labour hours
available
3,000
2,500
(5,500 3,000)
(f)
Units produced
3,000 hours
1.5 hours
2,500 hours
2 hours
2,000 units
1,250 units
78
5,500
Exercise 3
Classic
City
Casual
Total
(a)
Machine hours
required
0.5 10,000 0.5 12,000 0.5 16,000

5,000 hours 6,000 hours 8,000 hours 19,000 hours
(b)
Contribution
per unit
28 13
15
(c)
Contribution
15
per machine hour 0.5
30
(d)
First:
Classic
Second: City
Third: Casual
(e)
Machine hours
available
(f)
Units produced
30 16
14
22 10
12
14
0.5
28
12
0.5
24
5,000 hours
6,000 hours
7,000 hours 18,000 hours

(18,000 11,000)
5,000
0.5
6,000
0.5
7,000
0.5
10,000 units 12,000 units 14,000 units
79
Exercise 4
Kelso
Selkirk
Melrose
Total
(a)
Machine hours
required
5 hours 200 3.5 hours 300 3 hours 180

1,000 hours
1,050 hours
540 hours
2,590 hours
(b)
Contribution
per unit
360 180
180
280 140
140
250 100
150
(c)
Contribution
per machine
hour
180
5
140
3.5
150
3
36
40
50
(d)
First:
Melrose
Second: Selkirk
Third: Kelso
(e)
Machine hours
available
610 hours
1,050 hours
(2,200 1,590)
540 hours
(f)
Units produced
610
5
1,050
3.5
540
3
122 units
300 units
180 units
80
2,200 hours
Exercise 5
Dunkeld
Aberfeldy
Total
Labour hours
required
5 hours 400
2,000 hours
4 hours 800
3,200 hours
5,200 hours
(b)
Contribution
per unit
1,200 600
600
800 360
440
(c)
Contribution
per labour hour
600
5
120
440
4
110
(d)
First:
Dunkeld
Second: Aberfeldy
(e)
Labour hours
available
2,000
3,000
5,000
(5,000 2,000)
(f)
Units produced
2,000
5
3,000
4
400 units
750 units
(a)
(g)
(h)
Contribution per labour hour 120

Labour hours
2,000
Total contribution
120 2,000
240,000
Fixed costs
Profit
110
3,000
110 3,000
330,000
570,000
400,000
170,000
81
Exercise 6
Relax
(a)
Machine hours required
Relax-plus
1.5 hours x 800 2 hours x 400

1,200 hours
800 hours
Total
2,000 hours
(b)
Contribution
per unit
130 70
60
150 90
60
(c)
Contribution
per machine hour
60
1.5
40
60
2
30
(d)
First:
Relax
Second: Relax-plus
(e)
Machine hours
available
1,200
600
1,800
(1,800 1,200)
(f)
Units produced
1,200
1.5
800 units
600
2
300 units
(g)
Contribution per
machine hour
Machine hours
Total contribution
40
1,200
48,000
30
600
18,000
(h)
82
Fixed costs
Profit
64,000
30,000
34,000
Exercise 7
Moray
Dornoch
(a) Labour hours

required
2 hours 2,000
4,000 hours
1.5 hours 1,600 2 hours 1,000

2,400 hours
2,000 hours
(b) Contribution
per unit
120 60
60
200 110
90
150 80
70
(c) Contribution per

labour hour
60
2
30
90
1.5
60
70
2
35
(d) First:
Second:
Third:
Beauly
Total
8,400 hours
Dornoch
Beauly
Moray
(e) Labour hours

available
3,600 hours
(8,000 4,400)
2,400 hours
2,000 hours
(f) Units produced
3,600
2
1,800 units
2,400
1.5
1,600 units
2,000
2
1,000 units
(g) Total contribution 30 x 3,600

108,000
60 x 2,400
144,000
35 x 2,000
70,000
(h) Fixed costs

Profit
8,000 hours
322,000
180,000
142,000
83
Exercise 8
Class 1
(a)
Class 2
Class 3
Total
2,320 hours
Labour hours
required
20 hours 20 18 hours 40
400 hours
720 hours
15 hours 80
1,200 hours
(b)
Contribution
per unit
480 300
180
420 240
180
320 200
120
(c)
Contribution
per labour hour
180
20
9
180
18
10
120
15
8
(d)
First:
Class 2
Second Class 1
Third: Class 3
(e)
Labour hours
available
400 hours
720 hours
900 hours
(2,020 1,120)
(f)
Units produced
400
20
20 units
720
18
40 units
900
15
60 units
(g)
Total contribution
9 400
3,600
10 720
7,200
8 900
7,200
(h)
84
Fixed costs
Profit
2,020 hours
18,000
8,000
10,000
Exercise 9
A
Total
(a)
Machine hours
required
0.25 hours 6,000 0.5 hours 8,000 0.5 hours 4,000

1,500 hours
4,000 hours
2,000 hours
7,500 hours
(b)
Contribution
per unit
12 8
4
30 15
15
24 12
12
(c)
Contribution
per machine hour
4
0.25
16
15
0.5
30
12
0.5
24
(d)
First:
B
Second: C
Third: A
(e)
Machine hours
available
1,000 hours
(7,000 6,000)
4,000 hours
2,000 hours
(f)
Units produced
1,000
0.25
4,000
0.5
2,000
0.5
4,000 units
8,000 units
4,000 units
16 1,000
16,000
30 4,000
120,000
24 2,000
48,000
(g)
(h)
Total contribution
Fixed costs
Profit
7,000 hours
184,000
90,000
94,000
85
Exercise 10
Model 100
Model 200
Machine hours
required
0.5 2,000
1,000 hours
0.25 5,000 1 4,000

(b)
Contribution
per unit
25 15
10
20 12
8
42 26
16
(c)
Contribution
per machine hour
10
0.5
20
8
0.25
32
16
1
16
(d)
First:
Model 200
Second: Model 100
Third: Model 300
(e)
Machine hours
available
1,000 hours
1,250 hours
3,750 hours
6,000 hours
(6,000 2,250)
(f)
Units produced
1,000
0.5
1,250
0.25
3,750
1
2,000 units
5,000 units
3,750 units
20 1,000
20,000
32 1,250
40,000
16 3,750
60,000
(a)
(g)
(h)
86
Total contribution
Fixed costs
Profit
Model 300
Total
6,250 hours
120,000
70,000
50,000
Exercise 11
A
Total
(a)
Labour hours
required
2 1,000
2,000 hours
0.5 3,000
1,500 hours
1 2,200
2,200 hours
0.25 4,800
(b)
Contribution
per unit
40 20
20
10 6
4
18 12
6
8 3
5
(c)
Contribution
per labour hour
20
2
10
4
0.5
8
6
1
6
5
0.25
20
(d)
First:
Second:
Third:
Fourth:
(e)
Labour hours
available
2,000 hours
1,500 hours

(6,500 4,700)
(f)
Units produced
2,000
2 hours
1,500
0.5 hours
1,800
1 hour
1,200
0.25 hours
1,000 units
3,000 units
1,800 units
4,800 units
10 2,000
20,000
8 1,500
12,000
6 1,800
10,800
20 1,200
24,000
(g)
(h)
D
A
B
C
Total contribution
Fixed costs
Profit
6,500 hours
66,800
40,000
26,800
87
Exercise 12
Single
(a)
2-candle
3-candle
5-candle
Total
1,500 hours
Machine hours
required
0.25 1,600 0.25 600

400 hours
150 hours
0.5 1,400
700 hours
0.5 500
250 hours
(b)
Contribution
per unit
15 8
7
18 13
5
26 15
11
30 18
12
(c)
Contribution
per machine hour
7
0.25
28
5
0.25
20
11
0.5
22
12
0.5
24
(d)
First:
Second:
Third:
Fourth:
(e)
Machine hours
available
400 hours
50 hours
700 hours
(1,400 1,350)
250 hours
(f)
Units produced
400
0.25
50
0.25
700
0.5
250
0.5
1,600 units
200 units
1,400 units
500 units
28 400
11,200
20 50
1,000
22 700
15,400
24 250
6,000
(g)
(h)
88
Single
5-candle
3-candle
2-candle
Total contribution
Fixed costs
Profit
1,400 hours
33,600
14,000
19,600
Limiting factor: extension exercises

Exercise E1
Forth Valley Products uses machines that are equally suitable for making any
of its products. There is a total machining capacity of 22,000 hours and total
fixed costs are 360,000.
Sales demand for its 4 products is expected to be as follows:
J:
K:
L:
M:
18,000
16,000
20,000
10,000
units
units
units
units.
The following additional data is also given:

Product
Selling
price
(per unit)
Variable
costs
(per unit)
Machine
hours
(per unit)
24
18
0.25
18
10
0.25
25
13
0.5
20
12
0.5
Using the above information, you are required to carry out the following
tasks.
(a)
Calculate the contribution per unit of the limiting factor.
(b)
Decide which product(s), if any, should be cut back. Give a reason for
your choice.
(c)
Calculate how many machine hours are necessary to satisfy current

demand.
(d)
Calculate how many machine hours will be used for making each of the
4 products in order to maximise profit.
(e)
Calculate the total contribution and the final profit from this output.
(f)
How many units of each product will be made?
(g)
89
Exercise E2
Main & Morrison plc have a limited labour force that provides 4,200 labour
hours per year. Four products are made in the factory, which has fixed costs
of 70,000. Maximum demand for the 4 products is expected to be as
follows:
A: 200
B: 150
C: 400
D: 320
units
units
units
units.
Budgeted figures for the 4 products have been supplied.

Product
Variable
costs
(per unit)
Selling
price
(per unit)
Labour
hours
(per unit)
160
300
110
230
225
350
175
295
Answer each of the following questions.

(a)
How many labour hours are necessary to meet current demand? Why is
it essential to calculate this figure?
(b)
Can current demand be met with existing resources?
(c)
If current demand cannot be met, state which product(s) should be cut

back, showing calculations to support your answer.
(d)
Calculate the number of labour hours available for each product.
(e)
Calculate the number of units that will be produced.
(f)
Calculate the maximum contribution and profit obtainable from this

level of output.
(g)
What is the sales revenue of the units produced?
90
Exercise E3
Crieff Wood Products plc produces 4 styles of garden seat de Luxe Double,
Standard Double, de Luxe Single and Standard Single for which demand is
expected to be 200, 500, 100 and 150 units, respectively. The number of
labour hours available is 3,300 and fixed costs total 50,000.
The following figures are available.
Product
Selling
price
(per unit)
Materials
cost
(per unit)
Wages
cost
(per unit)
Labour
hours
(per unit)
de Luxe Double
250
40
70
Standard Double
182
30
48
de Luxe Single
180
28
56
Standard Single
130
25
36

(a)
The limiting factor is labour. Explain what is meant by the limiting

factor.
(b)
Calculate the labour hours needed to satisfy current demand. Compare

your answer with the number of hours available and calculate the
shortage of hours.
(c)
Find the contribution per unit and the contribution per labour hour for
each style.
(d)
Calculate the labour hours to be spent on each style in order to

maximise profit.
(e)
Calculate the total contribution and maximum profit from your

suggested output.
(f)
Calculate the total sales revenue of the output.
91
Suggested solutions to extension exercises

Exercise E1
J
24 18
6
6
0.25
24
K
18 10
8
8
0.25
32
L
25 13
12
12
0.5
24
M
20 12
8
8
0.5
16
Total
(a)
Contribution
per unit
Contribution
per machine hour
(b)
Product M should be cut back because it has the lowest contribution per labour hour. Machine hours are scarce (only 22,000 are
available) therefore the products given priority are those with the highest contribution per unit of the limiting factor.
(c)
Machine hours
required
0.25 18,000
4,500 hours
0.25 16,000
4,000 hours
0.5 20,000
10,000 hours
0.5 10,000
5,000 hours
(d)
Machine hours
available
4,500 hours
4,000 hours
10,000 hours
3,500 hours
(22,000 18,500)
(e)
Total
contribution
Less fixed costs
Profit
24 4,500
108,000
32 4,000
128,000
24 10,000
240,000
16 3,500
56,000
Units produced
4,500
0.25
4,000
0.25
10,000
0.5
3,500
0.5
18,000 units
16,000 units
20,000 units
7,000 units
24 18,000
432,000
18 16,000
288,000
25 20,000
500,000
20 7,000
140,000
(f)
(g)
Sales revenue
23,500 hours
22,000 hours
532,000
360,000
172,000
1,360,000
92

Exercise E2
(a)
Labour hours
required
Total
4 hours 200
800 hours
3 hours 150
450 hours
5 hours 400
2,000 hours
4 hours 320
1,280 hours
4,530 hours
This figure must be calculated when labour is in scarce supply. It will tell the firm whether or not there are enough labour hours to fully meet
current demand. If not, a level of output will have to be fixed to maximise profit within the limitations.
(b)
No. Only 4,200 hours are available but 4,530 are required to meet current demand.
(c)
Contribution
per unit
Contribution
per labour hour
300 160
140
140
4
35
230 110
120
120
3
40
350 225
125
125
5
25
295 175
120
120
4
30
Product C should be cut back because it has the lowest contribution per labour hour.
(d)
Labour hours
available
800 hours
450 hours
1,670 hours
(4,300 2,530)
1,280 hours
(e)
Units produced
800
4
450
3
1,670
5
1,280
4
200 units
150 units
334 units
320 units
Total
contribution
Less fixed costs
Profit
35 800
28,000
40 450
18,000
25 1,670
41,750
30 1,280
38,400
Sales revenue
300 200
60,000
230 150
34,500
350 334
116,900
295 320
94,400
(f)
(g)
4,200 hours
126,150
70,000
56,150
305,800
93

Exercise E3
(a)
The limiting factor is a resource that is in short supply, e.g. labour. This means that production has to be planned so that the highest possible profit
will be made from the existing labour supply. Output levels will be such that those products which give the highest contribution per labour hour will
be given priority.
(b)
Labour hours
required
Labour hours
available
Shortage
de Luxe Double
Standard Double
de Luxe Single
Standard Single
Total
5 hours 200
1,000 hours
4 hours 500
2,000 hours
4 hours 100
400 hours
3 hours 150
450 hours
3, 850 hours
3,300 hours
550 hours
(c)
Contribution
per unit
Contribution
per labour hour
250 110
140
140
5
28
182 78
104
104
4
26
180 84
96
96
4
24
130 61
69
69
3
23
(d)
Labour hours
available
1,000 hours
2,000 hours
300 hours
(3,300 3,000)
(e)
Total
contribution
Less fixed costs
Profit
28 1,000
28,000
26 2,000
52,000
24 300
7,200
Units produced
Sales revenue
200 units
250 200
50,000
500 units
182 500
91,000
75 units
180 75
13,500
(f)
94
3,300 hours
87,200
50,000
37,200
154,500
Section Three
Financial Analysis
Contents
Summary note and example
97-103
104-131
132-144
FINA NCIAL ANALYS IS
SECTION THREE
Ratios and percentages

At the end of each financial year Final Accounts are prepared that show the
firms profitability and its financial position at that date. These accounts are
a record of the firms performance and, by themselves, have limited use since
they give no indication of whether the results are favourable or unfavourable.
For example, they show the profit/loss figure but there is nothing to indicate
whether that figure is satisfactory for the firm concerned. The assets are
listed in the Balance Sheet but, again, there is nothing to show that they are
being used effectively for example, is a bank balance of 10,000 a healthy
sign and is an overdraft of 5,000 unhealthy?
Management needs to know whether or not:
(i)
performance is satisfactory
(ii) performance is showing improvement on previous years
(iii) there are problem areas that should be investigated.
It may also be desirable to compare figures with those of competitors or with
the average for the industry.
A straightforward comparison of figures is usually unhelpful. A profit of
20,000 may be acceptable for one firm but entirely unacceptable for another:
if it is related to the capital employed it becomes more meaningful. A return
of 20,000 on capital of 100,000 (20%) is obviously better than a return of
20,000 on capital of 200,000 (10%). Ratios and percentages are therefore
normally used for the purpose of comparison.
Parties who would be interested in the firms ratios are:
owners/shareholders who want to see how profitable their investment is
potential creditors such as suppliers and banks who would be interested to
know if the firm is credit worthy
staff who are interested in wage rates, bonuses and profit-sharing, which
must be considered in the light of profitability
companies interested in take-over bids who want to see profitability and
efficient use of assets.
The main types of ratio are those relating to profitability and liquidity.
97
Profitability
Profitability ratios show how successful a firm is in relation to capital and
sales revenue.
Example 1
Year 1
Year 2
Capital at start
Add net profit
20,000
4,000
22,000
5,500
Less drawings
24,000
2,000
27,500
3,000
Capital at end
22,000
24,500
Return on capital employed =
net profit
opening capital
Return on capital employed
Year 1
4,000
20,000
= 20%
100
1
Year 2
100
1
5,500
22,000
100
1
= 25%
This ratio shows there has been adequate return on investment. In the second
year profit has increased and the improved ratio indicates that assets have
been more effectively employed. This may be due to factors such as
economic purchasing procedures, increased advertising and reduced expenses.
98
ACCO UNT ING AND FINAN CE
Example 2
Year 1
Year 2
Sales
Less cost of goods sold
60,000
40,000
80,000
50,000
Gross profit
Less expenses
20,000
8,000
30,000
12,000
Net profit
12,000
18,000
Gross profit % =
Gross profit %
gross profit
sales
Year 1
20,000
60,000
= 33.3%
100
1
Year 2
100
1
30,000
80,000
100
1
= 37.5%
Gross profit arises from buying and selling stock and the gross profit %
shows how much of every 100 of sales is profitable. It is possible for sales
volume to increase without a corresponding increase in profitability.
In Year 2 there has been an increase in profitability. This may have arisen
from buying stock at a lower price because of influences such as a change of
buying policy or a change in market prices. On the other hand, it may be the
result of selling at an increased price without any increase in costs.
99
Net profit % =
Net profit %
= net profit
Sales
100
1
Year 1
12,000
60,000
Year 2
100
1
18,000
80,000
= 20%
Expenses % =
Expenses %
Year 1
= 13.3%
100
1
100
1
= 22.5%
= total expenses
sales
8,000
60,000
100
1
Year 2
100
1
12,000
80,000
= 15%
The net profit % and the expenses % are linked because net profit is the result
of deducting expenses from gross profit. The improvement in gross profit
ratio is reflected to some extent in the net profit % but there has been an
increase in expenses. There may have been an increase in advertising costs,
wages or other running costs and these would be examined to see if they can
be reduced.
100
Liquidity
Liquidity ratios show whether the firm can meet its liabilities when they are
due. Generally, current assets should cover current liabilities. Potential
creditors and lenders will not support a firm whose current liabilities are
greater than its current assets and the firm may be forced to close because it
is bankrupt. Working capital finances the day-to-day trading and if a firm
tries to boost sales to a level beyond its capacity, working capital is reduced.
This is called overtrading and is a common reason for insolvency.
Example 3
Current assets:
stock
debtors
bank
Current liabilities: creditors

bank
Current ratio
Current ratio
Year 1
Year 2
2,000
2,500
1,500
5,000
5,000
6,000
10,000
3,000
8,000
3,000
3,000
11,000
current assets
current liabilities
Year 1
Year 2
6,000
3,000
10,000
11,000
= 2:1
= 0.9:1
The current ratio has fallen in Year 2 and the firm is now unable to meet the
debts that are due within the next few months. This may be because the
increased stock level has been financed by borrowing from the bank or
because increased credit sales mean a higher debtors figure.
101
Example 4
Total credit sales

Average debtors
Debtors collection period
Year 1
Year 2
60,000
2,000
75,000
4,000
= debtors 365 da ys
sales
Year 1
Year 2
2,000 365
60,000
4,000 365
75,000
= 12 days
= 19 days
The debtors collection period is how long on average it has taken debtors to
pay for their goods. In Year 2 they have been allowed 7 days longer than in
Year 1 therefore credit control policy may need to be investigated. It may be
that sales were only increased by allowing longer credit to customers.
Example 5
Total credit purchases

Average creditors
Creditors payment period
Year 1
Year 2
50,000
3,000
60,000
2,500
= creditors 365
purchases
Year 1
Year 2
3,000 365
50,000
2,500 365
60,000
= 21 days
= 15 days
This ratio shows how long the firm is taking on average to pay for its credit
purchases. In Year 2 the time has been shortened by 6 days which means that
creditors have tightened their credit terms. It is also possible that the firm is
not making full use of the credit facilities available to it and is paying too
quickly.
102
Example 6
Year 1
Year 2
Stock at start
Add purchases
14,000
40,000
12,000
49,000
Goods available
Less stock at end
54,000
12,000
61,000
10,000
Cost of goods sold
42,000
51,000
Rate of stock turnover

= cost of goods sold

average stock
Year 1
Year 2
42,000
13,000
51,000
11,000
= 3.2 times
= 4.6 times
The rate of stock turnover gives the number of times stock has been changed
during the year. The stock figure used is the average of the stock figures
available the opening and closing stocks divided by 2.
A firm with a fast-moving stock (for example a bakery) will have a very high
rate of stock turnover while one with a slow-moving stock (for example a
furniture supplier) will have a low figure.
In Year 2 the rate of stock turnover has increased because a lower amount of
stock is being held while output has risen. Further investigation would show
if this trend was favourable and has led to higher profits.
103
Financial analysis: exercises

Exercise 1
From the following information calculate the return on capital employed for
each year.
Year 1
Year 2
Year 3
Capital at start
Add profit
50,000
5,000
54,000
8,100
60,000
15,000
Less drawings
55,000
1,000
62,100
2,100
75,000
1,500
Capital at end
54,000
60,000
73,500
Exercise 2
Copy and complete the following table. Calculate the return on capital
employed for each year.
Year 1
Year 2
Year 3
Capital at start
Add profit
100,000
25,000
24,000
21,000
Less drawings
125,000
5,000
4,000
Capital at end
104
155,000
Exercise 3
Use the information below to calculate the following for each year:
(a)
(b)
(c)
gross profit %
net profit %
expenses %.
Year 1
Year 2
Year 3
Sales
60,000
40,000
72,000
54,000
96,000
67,200
Gross profit
Less expenses
20,000
8,000
18,000
7,200
28,800
9,600
Net profit
12,000
10,800
19,200
Exercise 4
Copy and complete the following table then calculate gross profit %, net
profit %, expenses % and rate of stock turnover.
Sales
Gross profit
Less expenses
Year 1
Year 2
Year 3
120,000
90,000
160,000
220,000
132,000
32,000
18,000
8,000
Net profit
66,000
105
Exercise 5
Trading and Profit and Loss Accounts for year ended 31 March
Year 1
Year 2
Sales
Less cost of sales
Stock at start
Add purchases
80,000
6,000
50,000
8,000
69,800
Less stock at end
56,000
8,000
77,800
12,000
48,000
94,000
65,800
Gross profit
32,000
28,200
Less expenses
16,000
11,280
Net profit
16,000
16,920
Calculate the following ratios for each year:

(a)
(b)
(c)
(d)
106
gross profit %
net profit %
expenses %
rate of stock turnover.
Exercise 6
Trading and Profit and Loss Accounts for year ended 31 July
Year 1
000s
000s
Year 2
000s
Sales
Less cost of sales
Stock at start
Add purchases
120
8
70
6
74
Less stock at end
78
6
80
10
72
000s
140
70
Gross profit
48
70
Less expenses
18
28
Net profit
30
42
Calculate the following ratios for each year and give one possible reason for
any increase/decrease in Year 2:
(a)
(b)
(c)
(d)
gross profit %
net profit %
expenses %
rate of stock turnover
Exercise 7
Using the following information, calculate the debtors collection period and
the creditors payment period for each of the 3 firms.
Credit purchases
Credit sales
Average creditors
Average debtors
Black
White
Gray
100,000
150,000
10,000
12,000
48,000
75,000
2,400
3,500
235,000
342,500
14,500
13,200
107
Exercise 8
Use the following figures to calculate the debtors collection period and the
creditors payment period for each year and comment on any increase/decrease
in the ratios in Year 2.
Credit sales
Credit purchases
Average debtors
Average creditors
Year 1
Year 2
88,500
54,200
4,600
2,600
96,800
68,800
7,200
2,500
Exercise 9
From the following Balance Sheet extracts calculate the current ratio for each
year and suggest a reason for any differences that have arisen.
Balance Sheet as at 28 February
Year 1
Year 2
Year 3
4,000
2,500
4,000
3,000
1,600
1,400
4,000
1,400
10,500
6,000
5,400
CURRENT LIABILITIES
Creditors
3,500
Bank
3,000
3,200
4,000
3,500
3,000
7,200
CURRENT ASSETS
Stock
Debtors
Bank
108
Exercise 10
Study the ratios given for Years 1 and 2 then give one possible reason for
each of the differences that have arisen.
(a)
(b)
(c)
(d)
(e)

Gross profit %
Net profit %
Current ratio
Year 1
Year 2
18%
30%
20%
2:1
25 days
18.5%
40%
22%
2.5:1
32 days
109
Exercise 11
Study the following set of final accounts provided by D Matthews and
calculate the ratios listed below.
(a)
(b)
(c)
(d)
(e)
(f)
(g)
(h)
Gross profit %
Net profit %
Expenses %
Current ratio
Trading and Profit and Loss Accounts for year ended 31 December
Sales
Stock at start
Add purchases
2,000
36,800
Goods available
Less stock at end
38,800
2,800
Gross profit
Less expenses
Net profit
110
48,000
36,000
12,000
4,800
7,200
Exercise 11 (contd)
Balance Sheet as at 31 December
FIXED ASSETS
Machinery
Delivery van
CURRENT ASSETS
Stock
Debtors
Bank
Cash
LESS CURRENT LIABILITIES
Creditors
NET CURRENT ASSETS
TOTAL ASSETS
2,800
2,000
1,000
200
12,200
3,800
16,000
6,000
2,800
3,200
19,200
FINANCED BY
Capital at start
Add net profit
12,000
7,200
19,200
111
Exercise 12
You have been given the final accounts of A S Wilson and the following
figures and for the average firm in this type of business:
(a)
(b)
(c)
(d)
(e)
gross profit %
net profit %
return on capital employed
current ratio
27%
9.5%
16%
8 times
2:1
From the final accounts prepare ratios similar to those above and in each case
give one possible reason for the difference (if any) between A S Wilsons
figures and those of the average firm.
Trading and Profit and Loss Accounts for year ended 30 June
Sales
Stock at start
Add purchases
4,000
32,000
Goods available
Less stock at end
36,000
6,000
Gross profit
Less expenses
Net profit
112
40,000
30,000
10,000
6,000
4,000
Exercise 12 (contd)
Balance Sheet as at 30 June
FIXED ASSETS
Machinery
Delivery van
CURRENT ASSETS
Stock
Debtors
Creditors
Bank
NET CURRENT ASSETS
TOTAL ASSETS
20,000
12,000
32,000
6,000
8,000
14,000
10,000
2,000
12,000
2,000
34,000
FINANCED BY
Capital at start
Add net profit
30,000
4,000
34,000
113
Exercise 13
(a)
From the information below calculate the following figures:

(i)
(ii)
(iii)
(iv)
(v)
(vi)
gross profit %
net profit %
current ratio
debtors collection period
creditors payment period
Trading and Profit and Loss Accounts for year ended 30 September
000s
Sales
Stock at start
Add purchases
4
40
Goods available
Less stock at end
44
8
000s
60
36
Gross profit
Less expenses
24
12
Net profit
12
114
Exercise 13 (contd)
Balance Sheet as at 30 September
000s
FIXED ASSETS
Motor lorry
Machinery
000s
000s
36
10
46
CURRENT ASSETS
Stock
Debtors
8
6
14

Creditors
Bank
8
2
10
TOTAL ASSETS
4
50
FINANCED BY
Capital at start
Add net profit
40
12
Less drawings
52
2
50
(b)
Compare your answers with the figures given below for the average
business in this line and give one possible reason for each difference
shown.
(i)
(ii)
(iii)
(iv)
(v)
(vi)
Gross profit %
Net profit %
Current ratio
40%
25%
1.5:1
30 days
90 days
7 times
115
Exercise 14
The following final accounts have been supplied by Western Builders plc.
You are required to calculate the following ratios for both years and comment
on any difference:
(a)
(b)
(c)
(d)
(e)
gross profit %
net profit %
current ratio.
Trading and Profit and Loss Accounts for year ended 31 December
Year 1
000s
Sales
Stock at start
Add purchases
30
200
Goods available
Less stock at end
230
25
Year 2
000s
300
000s
000s
400
25
260
205
285
20
265
Gross profit
95
135
Less expenses
20
25
Net profit
75
110
116
Exercise 14 (contd)
Balance Sheets as at 31 December
Year 1
000s
FIXED ASSETS
Premises
Plant and machinery
Delivery vehicles
CURRENT ASSETS
Stock
Debtors
Bank
LESS CURRENT
LIABILITIES
Creditors
Bank
TOTAL ASSETS
000s
500
200
100
25
16
0
41
14
2
16
Year 2
000s 000s
000s
000s
450
280
160
890
800
25
20
18
15
53
8
0
45
825
935
750
75
825
110
825
935
FINANCED BY
Capital at start
Add net profit
117
Exercise 15
The following information has been provided by the directors of Rannoch
Heating plc.
Calculate each of the following ratios for both years and suggest one possible
reason for any differences:
(a)
(b)
(c)
(d)
(e)
(f)
gross profit %
net profit %
expenses %
creditors payment period
current ratio.
Trading and Profit and Loss Accounts for year ended 30 April
Year 1
000s
Sales
Stock at start
Add purchases
25
275
Goods available
Less stock at end
300
15
Gross profit
Less expenses
Net profit
118
000s
500
Year 2
000s
000s
400
15
250
285
265
20
245
215
155
50
50
165
105
Exercise 15 (contd)
Balance Sheets as at 30 April
Year 1
000s
FIXED ASSETS
Premises
Machinery
Vehicles
CURRENT ASSETS
Stock
Debtors
Bank
LESS CURRENT
LIABILITIES
Creditors
Bank
TOTAL ASSETS
000s
100
120
150
15
8
12
35
18
0
18
Year 2
000s 000s
000s
000s
150
220
120
490
370
17
20
22
0
42
26
14
40
387
492
222
165
387
105
387
492
FINANCED BY
Capital at start
Add net profit
119
Exercise 16
You have been given the following information by the management of
Musicmakers plc.
Trading and Profit and Loss Accounts for year ended 10 April
Year 1
000s
Sales
Stock at start
Add purchases
Goods available
Less stock at end
000s
180
Year 2
000s
11
98
109
9
000s
220
9
114
100
123
13
110
Gross profit
80
110
Less expenses
20
40
Net profit
60
70
(a)
You are required to calculate the following ratios for each of the 2
years:
(i)
(ii)
(iii)
(iv)
(b)
gross profit %
net profit %
expenses %
rate of stock turnover.
Give one possible reason for any differences that have arisen in the
ratios between the two years.
The following Balance Sheets have also been supplied.
120
Exercise 16 (contd)
Balance Sheets as at 30 April
Year 1
000s
000s
FIXED ASSETS
Premises
Machinery
Vehicles
Office equipment
CURRENT ASSETS
Stock
Debtors
Bank
LESS CURRENT
LIABILITIES
Creditors
Bank
TOTAL ASSETS
9
5
8
Year 2
000s 000s
000s
000s
100
70
30
55
110
70
40
200
275
22
12
10
13
11
0
24
9
10
19
210
280
150
60
210
70
210
280
FINANCED BY
Capital at start
Add net profit
(c)
(i)
Calculate the return on capital employed for Years 1 and 2 and

give one reason for any difference in the figures.
(ii) Calculate the debtors collection period for both years. Has this
figure shown any improvement?
(iii) Calculate the creditors payment period for each year. What does
this ratio mean?
(iv) Calculate the current ratio for each year. Why is this ratio
considered to be very important?
121
Financial analysis: suggested solutions to exercises

Exercise 1
Year 1
Return on capital employed 5,000 x 100
50,000
= 10%
Year 2
Year 3
8,100 x 100
54,000
15,000 x 100
60,000
= 15%
= 25%
Exercise 2
Year 1
Year 2
Year 3
Capital at start
Add profit
100,000
25,000
120,000
24,000
140,000
21,000
Less drawings
125,000
5,000
144,000
4,000
161,000
6,000
Capital at end
120,000
140,000
155,000
Return on capital employed 25,000 x 100

100,000
24,000 x 100
120,000
21,000 x 100
140,000
= 25%
= 20%
= 15%
Year 1
Year 2
Year 3
Gross profit %
33.3%
25%
30%
Net profit %
20%
15%
20%
Expenses %
13.3%
10%
10%
Exercise 3
122
Exercise 4
Year 1
Year 2
Year 3
120,000
90,000
160,000
128,000
220,000
132,000
30,000
18,000
32,000
8,000
88,000
22,000
12,000
24,000
66,000
Gross profit %
25%
20%
40%
Net profit %
10%
15%
30%
Expenses %
15%
5%
10%
Sales
Gross profit
Less expenses
Net profit
Exercise 5
Year 1
Year 2
(a)
Gross profit %
32,000 100
80,000
= 40%
28,200 100
94,000
= 30%
(b)
Net profit %
16,600 100
80,000
= 20%
16,920 100
94,000
= 18%
(c)
Expenses %
16,000 100
80,000
= 20%
11,280 100
94,000
= 12%
(d)
Average stock
6,000 + 8,000
2
= 7,000
8,000 + 12,000
2
= 10,000
48,000
7,000
= 6.85 times
65,800
10,000
= 6.58 times
123
Exercise 6
(a)
Gross profit %
Year 1
Year 2
48 100
120
= 40%
70 100
140
= 50%
An increase in the gross profit % may be due to:

selling at a higher price
buying at a lower price
a change in the sales mix.
(b)
Net profit %
30 100
120
= 25%
42 100
140
= 30%
The increase in the net profit % is probably due to the increase in the
gross profit %. It is a smaller increase and this may be because of a rise
in expense costs such as advertising.
(c)
Expenses %
18 100
120
= 15%
28 100
140
= 20%
Selling and administration expenses such as advertising, discounts

allowed, salaries, etc. may have risen.
(d)
Average stock
8 + 6
2
= 7
6 + 10
2
= 8
72
7
= 10.3 times
70
8
= 8.75 times
The rate of stock turnover has dropped which shows that although sales
have increased, a higher stock is being held. Stock must therefore be
turning over more slowly because of a decrease in actual sales volume.
124
Exercise 7
Black
White
Gray
12,000 365
150,000
= 29 days
3,500 365
75,000
= 17 days
13,200 365
342,500
= 14 days
10,000 365
100,000
= 36/37 days
2,400 365
48,000
= 18 days
14,500 365
235,000
= 22/23 days
Exercise 8
Year 1
Year 2
4,600 365
88,500
= 19 days
7,200 365
96,800
= 27 days
The increase in the debtors collection period may indicate that credit control
within the firm has become slack. This may be deliberate to encourage trade
but it should be investigated to see if it can be improved.
2,600 365
54,200
= 17/18 days
2,500 365
68,800
= 13 days
The creditors payment period has decreased, which indicates that creditors
are expecting their customers to pay more promptly. It is possible that cash
discounts have been offered to encourage this.
125
Exercise 9
Current ratio
Year 1
Year 2
Year 3
10,500
3,500
6,000
3,000
5,400
7,200
= 3:1
= 2:1
= 0.75:1
Year 1
Current ratio is very high a high level of stock may be being

carried but there is also a fairly high bank balance which could
perhaps be put to better use.
Year 2
This ratio is more normal and acceptable. All current assets have
been reduced considerably and some of the bank balance may
have been used to buy fixed assets such as machinery.
Year 3
The firm can no longer pay the debts that will shortly fall due.
The bank overdraft may have been caused by purchase of a fixed
asset when the firm could not afford it.
Exercise 10
(a)
Return on capital employed has improved only slightly, probably due to

the increase in the net profit %.
(b)
Gross profit % has increased considerably, either because selling price

has been increased or because the cost price has been decreased by
getting better terms or changing suppliers.
(c)
The net profit % has not increased in accordance with the gross profit
%, which suggests that expenses have risen more than is acceptable.
This should be investigated to eliminate the trend.
(d)
Current ratio has increased but it was satisfactory in Year 1. The

creditors figure may be lower or it may be that a greater proportion of
sales are on credit, thus increasing the debtors figure.
(e)
Debtors collection period is 7 days longer, which indicates that there is

a problem with debtors. There is a greater risk of bad debts when the
collection period is too long.
126
Exercise 11
(a)
Gross profit %
12,000 100
48,000
25%
(b)
Net profit %
7,200 100
48,000
15%
(c)
Expenses %
4,800 100
48,000
10%
(d)
7,200 100
12,000
60%
(e)
36,000 100
2,400
15 times
[average stock = 2,000 + 2,800 ]

2
(f)
Current ratio
6,000
2,800
2.1:1
(g)
2,000 365
48,000
15 days
(h)
2,800 365
36,800
27 days
127
Exercise 12
(a)
Gross profit %
10,000 100
40,000
25%
Lower than average 27%.

Reason: possibly lower selling price (different market, different sales
mix) or higher cost price (poor purchasing procedures, missing trade
discounts).
(b)
Net profit %
4,000 100
40,000
10%
Slightly higher than average 9.5%.

Reason: expenses are being kept under control.
(c)
Return on capital employed 4,000 100

30,000
13.3%
Lower than average 16%.

Reason: capital may not be being used efficiently a large amount
seems to be tied up in stock and debtors.
(d)
30,000 =
5,000
6 times
[average stock = 4,000 + 6,000 ]

2
Lower than average 8 times.
Reason: sales activity may be slowing down and stock piling up.
(e)
Current ratio
14,000 =
12,000
1.16:1
Much lower than average 2:1 dangerously low.

Reason: both debtors and creditors figures are high, resulting in poor
cash flow and an overdraft at the bank. (Creditors and overdraft result
in interest charges.)
128
Exercise 13
(a)
(i)
Gross profit %
24,000 100
60,000
40%
(ii)
Net profit %
12,000 100
60,000
20%
(iii) Current ratio
14,000
10,000
1.4:1
(iv)
6,000 365
60,000
36/37 days
(v)
8,000 365
40,000
73 days
(vi)
36,000
6,000
6 times
[average stock = 4,000 + 8,000 ]

2
(b)
(i)
No difference.
(ii)
Lower: expenses too high, need to be investigated.
(iii) Slightly lower: creditors figure seems rather high; money is lying out in
debtors that could be brought in to clear overdraft.
(iv)
Longer: credit policy too slack; perhaps no provision has been made for
bad debts.
(v)
Shorter than average: does not seem to be taking full advantage of the
very long term of credit generally allowed.
(vi)
Slower: old stock may be carried and included in figures.
129
Exercise 14
(a)
Gross profit %
Year 1
Year 2
95,000 100
300,000
= 31.7%
135,000 100
400,000
= 33.75%
This ratio has risen slightly either because of a rise in selling prices or a
fall in cost prices.
(b)
Net profit %
75,000 100
300,000
= 25%
110,000 100
400,000
= 27.5%
This ratio has risen slightly more than the gross profit %, which
suggests that expenses have been kept in check.
(c)
75,000 100
750,000
= 10%
110,000 100
825,000
= 13.3%
The increase in net profit is reflected in a slightly higher return, which

suggests that sales activity has risen.
(d)
16,000 365
300,000
= 19 days
18,000 365
400,000
= 16 days
Debtors are settling their accounts more quickly either because of a

tightening of credit procedures or because greater incentives are being
allowed for prompt payment.
(e)
Current ratio
41,000
16,000
= 2.6:1
53,000
8,000
= 6.6:1
The first year was more satisfactory although even then the ratio was a
little high. The high current ratio means that the firm is well able to
meet its short-term debts but the high current assets figure must be
examined money lying in the bank could be put to work in the
business or invested where it would earn a higher rate of interest.
130
Exercise 15
Year 1
(a)
Gross profit %
Year 2
215,000 100 155,000 100

500,000
400,000
= 43%
= 38.75%
This ratio has fallen because the cost of the goods sold is higher,
perhaps because of a general rise in prices or a change of supplier.
(b)
Net profit %
165,000 100 105,000 100

500,000
400,000
= 33%
= 26.25%
This ratio has also fallen because of the fall in gross profit but also
because expenses have remained the same despite a lower sales figure.
(c)
Expenses %
50,000 100
500,000
= 10%
50,000 100
400,000
= 12.5%
Economies have not been made in running expenses despite the fact that
sales were lower.
(d)
285,000
20,000
= 14.3 times
245,000
17,500
= 14 times
There is little change in the number of times stock is turning over in the
year.
(e)
18,000 365
275,000
= 24 days
26,000 365
250,000
= 38 days
The firm is taking advantage of longer credit periods from its suppliers,
but must take care not to lose out on discounts.
(f)
Current ratio
35,000
18,000
= 1.9:1
42,000
40,000
= 1.05:1
The current ratio has gone from being satisfactory to risky. The high
debtors figure means a probability of bad debts arising. High creditors
and overdraft are possibly costing money.
131
Exercise 16
(a)
Year 1
Year 2
(i)
Gross profit %
80,000 100
180,000
= 44%
110,000 100
220,000
= 50%
(ii)
Net profit %
60,000 100
180,000
= 33%
70,000 100
220,000
= 32%
(iii) Expenses %
20,000 100
180,000
= 11%
40,000 100
220,000
= 18%
(iv)
100,000
10,000
= 10 times
110,000
11,000
= 10 times
(b)
(i)
Gross profit % has increased because of lower purchase prices or

increased selling prices.
(ii)
Net profit % has not increased in proportion to gross profit % because

expenses have been allowed to increase.
(iii) As in (ii), expenses have risen out of proportion to the increased sales.
(iv)
132
No difference.
(c)
(i)
60,000 100
150,000
= 40%
70,000 100
210,000
= 33%
The increased expenses have caused this ratio to fall despite increased
sales.
(ii)
5,000 365
180,000
= 10 days
11,000 365
220,000
= 18 days
No, debtors are taking longer to settle their bills in Year 2.

(iii) Creditors payment period
12,000 365
98,000
= 45 days
9,000 365
114,000
= 29 days
This ratio shows the credit period allowed to Musicmakers plc by

suppliers.
(iv)
Current ratio
22,000
12,000
= 1.8:1
24,000
19,000
= 1.3:1
This ratio is important because it indicates the firms ability to settle its
short-term debts. Current assets should ideally be about twice as much
as current liabilities but this varies from firm to firm. If current assets
do not cover current liabilities, the firm may be in danger of going
bankrupt and having to close.
133
Financial analysis: extension exercises

Exercise E1
The following figures have been supplied by H Cowan, who is concerned at
the fall in profits.
Balance Sheets as at 31 December
Year 1
Year 2
FIXED ASSETS
Premises
60,000
60,000
Machinery
12,000
7,000
Vehicles
10,000
8,000
Office equipment
82,000
3,000 78,000
CURRENT ASSETS
Stock
4,000
6,250
Debtors
2,000
4,000
Bank
2,000 8,000
1,250 11,500
LESS CURRENT
LIABILITIES
Creditors
7,000
4,500
Bank
1,000
7,000
TOTAL ASSETS
83,000
85,000
Capital at start
Add net profit
70,000
14,400
83,000
3,200
Less drawings
84,000
1,400
86,200
1,200
83,000
85,000
FINANCED BY

(a)
(b)
(c)
(d)
(e)
(f)
(g)
134
How much is the return on capital employed for each year?

Give one possible reason for the fall in this ratio.
Suggest 2 possible remedies for falling profits.
What is the current ratio for each year?
Which current ratio is considered to be more satisfactory?
Explain the danger of a current ratio that is too low.
Give a reason for the fall in value of the machinery and the vehicles.
Exercise E2
The following figures have been prepared by M Davidson for the 2 years
ended 31 May.
Trading and Profit and Loss Accounts for year ended 31 May
Year 1
Sales
Stock at start
Add purchases
2,500
32,000
Goods available
Less stock at end
34,500
4,500
Gross profit
Less expenses
Net profit
(a)
40,000
Year 2
48,000
4,500
32,700
30,000
37,200
5,200
32,000
10,000
8,000
16,000
12,000
2,000
4,000
Calculate the following ratios for both years:

(i)
gross profit %
(ii) net profit %
(iii) rate of stock turnover.
(b)

(i)
Give one possible reason for the change in the gross profit %.
(ii)
In which year was M Davidson more economical with expenses

for the sales level? Give a reason for your answer.
(iii) What is meant by rate of stock turnover?
135
Exercise E2 (contd)
M Davidson has also supplied the following Balance Sheets.
Balance Sheet as at 31 May
Year 1
FIXED ASSETS
Premises
Machinery
Vehicles
Office equipment
CURRENT ASSETS
Stock
Debtors
Bank
LESS CURRENT
LIABILITIES
Creditors
Bank
Year 2
8,000
7,000
4,000 19,000
4,000
5,250
3,750 13,000
4,500
5,500 10,000
TOTAL ASSETS
3,000
7,000
12,000
3,000 22,000
4,000
4,500
500
9,000
3,000
3,500
6,500
2,500
22,000
24,500
Capital at start
Add net profit
21,000
2,000
22,000
4,000
Less drawings
23,000
1,000
26,000
1,500
22,000
24,500
FINANCED BY
(c)
Using the above information and your answers to (a), calculate the
following ratios:
(i)
(ii)
(iii)
(iv)
(d)

(i)
(ii)
136

current ratio
creditors payment period.
The ideal current ratio is considered to be 2:1. Suggest one

possible reason for Davidsons fairly low current ratio.
What is meant by debtors collection period and what could be
offered to customers to try to improve this figure?
Exercise E3
The management of Quality Doors plc has provided the figures below.
Trading and Profit and Loss Accounts for year ended 31 August
Year 1
000s
Sales
Stock at start
Add purchases
2
146
Goods available
Less stock at end
148
4
000s
200
Year 2
000s
000s
240
4
184
144
188
8
180
Gross profit
56
60
Less expenses
36
26
Net profit
20
34
137
Exercise E3 (contd)
Balance Sheet as at 31 August
Year 1
000s
Cost
FIXED ASSETS
CURRENT ASSETS
Stock
Debtors
Bank
LESS CURRENT
LIABILITIES
Creditors
NET CURRENT ASSETS
000s
Agg
Dep
12
Year 2
000s 000s
Book
Cost
Value
88
134
000s
Agg
Dep
16
4
10
5
19
8
12
2
22
100
TOTAL ASSETS
000s
Book
Value
118
12
16
100
134
80
20
100
34
100
134
FINANCED BY
Capital at start
Add net profit
(a)
You are required to calculate the following ratios for both years and
give one possible reason for any differences that have arisen between
the two years.
(i)
(ii)
(iii)
(iv)
(v)
(vi)
(vii)
(viii)
138
Gross profit %
Net profit %
Expenses %
Current ratio
Exercise E3 (contd)
(b)

(i)
Why is it important for the firm to know the current ratio?
(ii)
What is meant by the rate of stock turnover?
(iii) How does the calculation of ratios help in showing if a firms

performance is satisfactory for its line of business?
139
Financial analysis: suggested solutions to extension

exercises
Exercise E1
(a)
(b)
Sales may have fallen unexpectedly; increase in costs; increase in

expenses.
(c)
An advertising campaign may increase sales; economies in expenditure;

market research to find new products; change suppliers.
(d)
Current ratio
(e)
Year 2 is more satisfactory.
(f)
A low current ratio means that the firm is in danger of being unable to
pay its short-term debts, in which case it will be bankrupt.
(g)
The charge for depreciation is the reason for the fall in value of these
assets.
140
Year 1
14,400 100
70,000
= 20.6%
Year 1
8,000
7,000
= 1.14:1
Year 2
3,200 100
83,000
= 3.9%
Year 2
11,500
4,500
= 2.5:1
Exercise E2
Year 1
Year 2
(a)
(i)
Gross profit %
10,000 100
40,000
= 25%
16,000 100
48,000
= 33.3%
(ii)
Net profit %
2,000 100
40,000
= 5%
4,000 100
48,000
= 8.3%
30,000
3,500
= 8.6 times
32,000
4,850
= 6.6 times
(iii) Rate of stock turnover
(b)
(i)
Selling prices have increased or cost prices have decreased.
(ii)
In Year 1: the difference between gross profit % and net profit % (the
expenses %) is 20% in Year 1 and 25% in Year 2.
(iii) Rate of stock turnover means the number of times that stock is bought
in and sold in a year.
(c)
(i)
2,000 100
21,000
= 9.5%
4,000 100
22,000
= 18%
(ii)
Current ratio
13,000
10,000
= 1.3:1
9,000
6,500
= 1.4:1
(iii) Debtors collection period
5,250 365
40,000
= 48 days
4,500 365
48,000
= 34 days
(iv)
4,500 365
32,000
= 51 days
3,000 365
32,700
= 33 days
141
Exercise E2 (contd)
(d)
(i)
Davidson has bought new machinery for which it seems he had to

borrow money.
(ii)
The debtors collection period is the average time taken by debtors to

settle their bills. Cash discounts could be offered to encourage prompt
payment.
142
Exercise E3
(a)
(i)
Gross profit %
Year 1
Year 2
56,000 100
200,000
= 28%
60,000 100
240,000
= 25%
Reason: although the sales figure has increased, purchases have cost
proportionately more, resulting in a decrease in gross profit %.
(ii)
Net profit %
20,000 100
200,000
= 10%
34,000 100
240,000
= 14.2%
Reason: this ratio has increased because expenses have fallen even
though sales were higher.
(iii) Expenses %
36,000 100
200,000
= 18%
26,000 100
240,000
= 10.8%
Reason: expenses are lower although turnover has increased.

(iv)
144,000
3,000
= 48 times
180,000
6,000
= 30 times
Reason: a slowing down in sales activity means that stock is not being
replenished so often. The stock figure may therefore include obsolete
stock that is still being carried.
(v)
20,000 100
80,000
= 25%
34,000 100
100,000
= 34%
Reason: this ratio has increased because the net profit % has increased.
(vi)
Current ratio
19,000
7,000
= 2.7:1
22,000
6,000
= 3.7:1
Reason: the current ratio is higher because of the high stock level being
carried.
143
Exercise E2 (contd)
(vii) Debtors collection period
10,000 365
200,000
12,000 365
240,000
= 18 days
= 18 days
7,000 365
146,000
6,000 365
184,000
= 18 days
= 12 days
No change.
(viii) Creditors payment period
Reason: creditors are tightening their credit control policies and debts
must be settled more quickly.
(b)
(i)
The current ratio shows whether or not the firm is able to settle debts
that will fall due within the next few months. If it cannot pay these it
may be insolvent and have to close.
(ii)
Rate of stock turnover means the number of times the stock is turned
over or bought in and sold in a year.
(iii) A firm can compare its own ratios with those of its competitors or with
those of an average firm in the same line of business.
144

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NATIONAL QUALIFIC ATIONS CURRICULUM SUPPORT

First published 1998

ACC OUNT IN G AND F IN ANC E

This publication contains both summary notes and a range of computational

Break-even charts - summary notes, example, tasks and suggested

Exercises 1-6 with suggested solutions

Contribution and profit in break-even analysis - summary notes,

Break-even analysis - theory questions with suggested solutions

Exercises 1-12 with suggested solutions

Extension exercises 1-3 with suggested solutions

BR EAK- EVEN ANALYS IS

there is only one product

increasing levels of activity

ACC OUNT IN G AND F IN ANC E

Variable costs per unit

Selling price per unit

We can draw up a table to show the information.

AC C OUNTING AND FINA NC E

Margin of safety Selling price

= actual units BEP units

Margin of safety (revenue) = actual revenue BEP revenue

ACC OUNT IN G AND F IN ANC E

Selling price per unit

What is the break-even point in units and sales revenue?

How much is the profit when 3,000 units are produced?

AC C OUNTING AND FINA NC E

What is the break-even point in units and sales revenue?

How much is the profit at an output of 2,500 units?

ACC OUNT IN G AND F IN ANC E

Suggested solution to Task 1

(a) Break-even point

= 1,500 units or 30,000 sales revenue.

(b) Margin of safety at 2,000 units = 2,000 1,500 = 500 units

Suggested solution to Task 2

2,000 units or 36,000 sales revenue

2,500 2,000 units = 500 units

Profit at 2,500 units

AC C OUNTING AND FINA NC E

ACC OUNT IN G AND F IN ANC E

Constructing a break-even chart

Using graph paper, draw a break-even chart to illustrate the figures in

AC C OUNTING AND FINA NC E

Suggested solution to Task 3(a)

Suggested solution to Task 3(b)

ACC OUNT IN G AND F IN ANC E

Break-even charts: exercises

From your chart find the break-even point in

Find the profit at output levels of 500 and 700 units.

From your chart find the break-even point in

Find the profit at outputs of 5,000 and 7,000 units.

AC C OUNTING AND FINA NC E

Selling price per unit

From your chart find the break-even point in

Find the profit expected at outputs of 6,000 and 8,000 units.

Management are considering increasing the selling price to 45 per unit.

State the new break-even point in

AC C OUNTING AND FINA NC E

Using the following information prepare a break-even chart, labelling

Selling price per unit

From your chart find the break-even point in

Find the profit expected at outputs of 6,000 and 7,000 units.

It may be possible to reduce the cost of materials to 10 per unit. Add

State the new break-even point in