Question

Refer to the information in Exercise 18-16.

1. Assume Hudson Co. has a target pretax income of $162,000 for 2018. What amount of sales (in dollars) is needed to produce this target income?

2. If Hudson achieves its target pretax income for 2018, what is its margin of safety (in percent)? (Round to one decimal place.)

Short answer

1. Sales to achieve targeted profit of $162,000 is:$2,430,000.
2. The margin of safety:33%

Step-by-step solution

Definition of Targeted Income

The income a business entity wishes to generate from the business operation is known as targeted income. Such income is estimated based on the previous sales and profit.

Sales to achieve targeted income

$\begin{array}{rcl}\mathrm{Targeted}\mathrm{sales}& =& \frac{\mathrm{Fixed}\mathrm{cost}+\mathrm{Targeted}\mathrm{profit}}{\mathrm{Contribution}\mathrm{margin}\mathrm{ratio}}\\ & =& \frac{\$324,000+\$162,000}{0.20}\\ & =& \$2,430,000\\ & & \\ \mathrm{Contribution}\mathrm{margin}\mathrm{ratio}& =& \frac{\mathrm{Sales}-\mathrm{Variable}\mathrm{cost}}{\mathrm{Sales}}\\ & =& \frac{\$2,160,000-\$1,728,000}{\$2,160,000}\\ & =& 0.20\end{array}$

Margin of safety

$\begin{array}{rcl}\mathrm{Break}-\mathrm{even}\mathrm{point}\mathrm{in}\mathrm{dollars}& =& \frac{\mathrm{Fixed}\mathrm{cost}}{\mathrm{Contribution}\mathrm{margin}\mathrm{ratio}}\\ & =& \frac{\$324,000}{0.20}\\ & =& \$1,620,000\\ & & \\ \mathrm{Margin}\mathrm{of}\mathrm{safety}& =& \frac{\mathrm{Actual}\mathrm{sales}-\mathrm{Break}-\mathrm{even}\mathrm{sales}}{\mathrm{Actual}\mathrm{sales}}\\ & =& \frac{\$2,430,000-\$1,620,000}{\$2,430,000}\\ & =& 0.33\end{array}$