Question

Magic Realm, Inc., has developed a new fantasy board game. The company sold 8,400 games last year at a selling price of $70 per game. Fixed expenses associated with the game total $84,000 per year, and variable expenses are $50 per game. Production of the game is entrusted to a printing contractor. Variable expenses consist mostly of payments to this contractor. Required: 1-a. Prepare a contribution format income statement for the game last year. 1-b. Compute the degree of operating leverage. 2. Management is confident that the company can sell 10,416 games next year (an increase of 2,016 games, or 24%, over last year). Given this assumption: a. What is the expected percentage increase in net operating income for next year

Answer 1

Answer:

1-a. Net operating income = $84,000

1-b. Degree of operating leverage = 2.00

2-a. Expected percentage increase in net operating income for next year = 48%

2-b. Expected amount of net operating income for next year = $124,320

Explanation:

Note: This question is not complete. The complete question is therefore provided before answering the question as follows:

Magic Realm, Inc., has developed a new fantasy board game. The company sold 8,400 games last year at a selling price of $70 per game. Fixed expenses associated with the game total $84,000 per year, and variable expenses are $50 per game. Production of the game is entrusted to a printing contractor. Variable expenses consist mostly of payments to this contractor. Required: 1-a. Prepare a contribution format income statement for the game last year. 1-b. Compute the degree of operating leverage. 2. Management is confident that the company can sell 10,416 games next year (an increase of 2,016 games, or 24%, over last year). Given this assumption: a. What is the expected percentage increase in net operating income for next year? b. What is the expected amount of net operating income for next year? (Do not prepare an income statement; use the degree of operating leverage to compute your answer.)

The explanation of the answers is now given as follows:

1-a. Prepare a contribution format income statement for the game last year.

The contribution format income statement for the game last year can be prepared as follows:

Magic Realm, Inc.

Contribution Income Statement For the Game

For Last Year

Particulars                                   Amount ($)         Per Unit ($)  

Sales (8,400 * $70)                      588,000                     70

Variable cost (8,400 * $50)        (420,000)                   (50)  

Contribution margin                     168,000                     20

Fixed cost                                    (84,000)  

Net operating income                 84,000  

1-b. Compute the degree of operating leverage.

Degree of operating leverage = Contribution margin / Net operating income = $168,000 / $84,000 = 2.00

2-a. What is the expected percentage increase in net operating income for next year?

This can be calculated as follows:

Expected percentage increase in net operating income for next year = Degree of operating leverage * Expected percentage increase in sales = 2 * 24% = 48%

2-b. What is the expected amount of net operating income for next year? (Do not prepare an income statement; use the degree of operating leverage to compute your answer.)

Expected amount of net operating income for next year = Last year's net operating income + (Last year's net operating income * Expected percentage increase in net operating income for next year) = $84,000 + ($84,000 * 48%) = $84,000 + $40,320 = $124,320