Question

Lorri’s income statement is as follows: Sales (10,000 units)$40,000 Less variable costs (24,000) Contribution margin$16,000 Less fixed costs (12,000) Net income$ 4,000 If sales increase by $10,000, profits will:

Answer 1

Explanation:

To find out how the increase in sales will affect the profits, we need to use the formula for profit change from sales increase1:

textProfitChange=textContributionMarginRatiotimestextSalesIncrease

The contribution margin ratio is the percentage of each sales dollar that remains after deducting the variable costs. It can be calculated by dividing the contribution margin by the sales2:

textContributionMarginRatio=fractextContributionMargintextSales

In this case, the contribution margin is $16,000 and the sales are $40,000, so the contribution margin ratio is:

textContributionMarginRatio=frac16,00040,000=0.4

This means that 40% of each sales dollar is available to cover the fixed costs and provide a profit.

The sales increase is given as $10,000, so we can plug these values into the formula for profit change:

textProfitChange=0.4times10,000=4,000

This means that the increase in sales will result in a $4,000 increase in profit, assuming that the variable costs and the fixed costs remain the same.

Therefore, the new profit after the sales increase will be:

textNewProfit=textOldProfit+textProfitChange

textNewProfit=4,000+4,000=8,000

So, if sales increase by $10,000, profits will increase by $4,000 and the new profit will be $8,000. I hope this helps you understand how to calculate the profit change from sales increase.