Question

A contribution income statement for the Nantucket Inn is shown below. (Ignore income taxes.) Revenue $ 2,000,000 Less: Variable expenses 1,300,000 Contribution margin $ 700,000 Less: Fixed expenses 560,000 Net income $ 140,000 ________________________________________ Required: 1. Show the hotel’s cost structure by indicating the percentage of the hotel’s revenue represented by each item on the income statement. 2. Suppose the hotel’s revenue declines by 30 percent. Use the contribution-margin percentage to calculate the resulting decrease in net income. 3. What is the hotel’s operating leverage factor when revenue is $2,000,000? 4. Use the operating leverage factor to calculate the increase in net income resulting from a 25 percent increase in sales revenue.

Answer 1

The hotel's cost structure can be understood by calculating the percentage of revenue for each income statement item. The operating leverage factor shows the sensitivity of net income to sales changes, which is crucial for planning.

Step-by-step explanation:

Understanding the Nantucket Inn's Contribution Income Statement

The question requires analyzing the income statement and calculating various financial metrics to understand the Inn's cost structure and sensitivity to changes in sales revenue. Here are the steps to calculate each part:

1. To determine the cost structure, calculate the percentage of revenue represented by each item on the income statement:
2. Variable expenses = (1,300,000 / 2,000,000) * 100% = 65% of revenue
3. Contribution margin = (700,000 / 2,000,000) * 100% = 35% of revenue
4. Fixed expenses = (560,000 / 2,000,000) * 100% = 28% of revenue
5. Net income = (140,000 / 2,000,000) * 100% = 7% of revenue
6. If the Inn's revenue declines by 30%, the new revenue would be 70% of the original, but the variable costs will also decline in proportion. The decrease in net income can be determined by applying the contribution-margin percentage to the loss in revenue.
7. The operating leverage factor is a measure of how a percentage change in sales will affect the net income. To calculate it, divide the contribution margin by the net income when revenue is $2,000,000.
8. To find the increase in net income resulting from a 25% increase in sales revenue, multiply the operating leverage factor by the percentage change in sales.

Understanding these factors allows management to make informed decisions regarding pricing, cost control, and planning for changes in sales volume.

Answer 2

1.Hotel’s cost structure Indications in percentage(%)

Revenue $ 2,000,000 (100)

Less: Variable expenses $ 1,300,000 65

--------------------

Contribution margin $700,000

Less: Fixed expenses $560,000 28

---------------------

Net income $140,000 7

2.Revenue declines by 30 percent

Revenue $ 1,400,000
`(2,000,000×70÷100)`

Less: Variable expenses $910,000
`( 1,300,000 ×70÷100)`

---------------------

Contribution margin $490,000
`( 700,000 ×70÷100)`

Less: Fixed expenses $392,000
`( 5,60,000 ×70÷100)`

---------------------

Net income $98,000
`( 140,000 ×70÷100))`

3.Operating leverage factor when revenue is $2,000,000

Operating leverage = Contribution/ Net income

`=700,000÷ 140,000=5`

4.Operating leverage factor when increase in revenue by 25 percent

increase in revenue by 25 percent=
`2,000,000×25÷100 = 500,000`

increase in contribution by 25 percent=
`700,000×25÷100=175,000`

increase in net income by 25 percent =
`140,000×25÷100=35,000`

Operating leverage = Contribution/ Net income

`= 875,000 ÷ 175,000 = 5`