Pineapple Corp. has annual revenues of $600,000, fixed expenses of $200,000, and an average contribution margin ratio of 30%.

(a) Management is considering adding a new product to the company's product line. The new item will have $14.00 of variable costs per unit. Calculate the selling price that will be required for this product to maintain the 30% average contribution margin ratio on current sales.

(b) If the new product adds an additional $63,000 to Pineapple's fixed expenses, how many units of the new product must be sold at the price calculated in part (a) in order to break even on the new product?

(c) If 25,000 units of the new product could be sold at a price of $18.00 per unit, and the company's other business did not change, calculate Pineapple's total operating income and average contribution margin ratio.

Answer:

Given,

Revenue = $600,000

Contribution = $600,000 * 0.30 = $180,000

Variable costs = $600,000 - $180,000 = $420,000

(a) Computation of selling price that will be required for this product to maintain the 30% average contribution margin ratio on current sales:

Selling Price = Variable Cost / (1-Contribution Margin Ratio)

= $14 / (1-30%)

Selling Price = $20

(b) Computation of Number of units of the new product must be sold at the price calculated in part (a) in order to break even on the new product:

Additional Fixed Cost = $63,000

Selling Price = $20

Variable Cost = $14

Contribution margin per unit = $20 - $14 = $6 per unit

Breakeven units = $63,000/$6 = 10,500 units

(c) Computation of Total operating income and average contribution margin ratio:

New Sales Revenue = $600,000 + 25,000 *$18 = $1,050,000

New Variable costs = $420,000 + 25,000 * $14 = $770,000

New Contribution = $1,050,000 - $770,000 = $280,000

Operating Income = $280,000 - ($200,000 + $63,000) = $17,000

Contribution margin ratio = $280,000/$1,050,000 = 26.67%