Northwood Company manufactures basketballs. The company has a ball that sells for $25. At present,the ball is manufactured in a small plant that relies heavily on direct labor workers. Thus, variablecosts are high, totaling $15 per ball, of which 60% is direct labor cost.Last year, the company sold 30,000 of these balls, with the following results:Required:Sales (30,000 balls). . . . . . . . . . . . . . . . . . $750,000Variable expenses . . . . . . . . . . . . . . . . . . . 450,000Contribution margin . . . . . . . . . . . . . . . . . . 300,000Fixed expenses . . . . . . . . . . . . . . . . . . . . . 210,000Net operating income . . . . . . . . . . . . . . . . $ 90,0001. Compute (a) the CM ratio and the break-even point in balls, and (b) the degree of operatingleverage at last year’s sales level.2. Due to an increase in labor rates, the company estimates that variable costs will increase by $3per ball next year. If this change takes place and the selling price per ball remains constant at$25, what will be the new CM ratio and break-even point in balls?3. Refer to the data in (2) above. If the expected change in variable costs takes place, how manyballs will have to be sold next year to earn the same net operating income ($90,000) as lastyear?4. Refer again to the data in (2) above. The president feels that the company must raise the sellingprice of its basketballs. If Northwood Company wants to maintain the same CM ratio aslast year, what selling price per ball must it charge next year to cover the increased laborcosts?5. Refer to the original data. The company is discussing the construction of a new, automatedmanufacturing plant. The new plant would slash variable costs per ball by 40%, but it wouldcause fi xed costs per year to double. If the new plant is built, what would be the company’snew CM ratio and new break-even point in balls?6. Refer to the data in (5) above.a. If the new plant is built, how many balls will have to be sold next year to earn the samenet operating income, $90,000, as last year?b. Assume the new plant is built and that next year the company manufactures and sells30,000 balls (the same number as sold last year). Prepare a contribution format incomestatement and compute the degree of operating leverage.c. If you were a member of top management, would you have been in favor of constructingthe new plant? Explain.
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