Cost Management: A Strategic Emphasis 5th Edition by David Stout, Edward Blocher, Gary Cokins

Exercise 40

Margin of Safety Harold McWilliams owns and manages a general merchandise store in a rural area of Virginia. Harold sells appliances, clothing, auto parts, and farming equipment, among a wide variety of other types of merchandise. Because of normal seasonal and cyclical fluctuations in the local economy, he knows that his business will also have these fluctuations, and he is planning to use CVP analysis to help him understand how he can expect his profits to change with these fluctuations. Harold has the following information for his most recent year. Cost of goods sold represents the cost paid for the merchandise he sells, while operating costs represent rent, insurance, and salaries, that are entirely fixed.

Sales	$650,000
Cost of goods sold	422,500
Contribution margin	227,500
Operating costs	105,000
Operating profit	$122,500

Required

1. What is Harold’s margin of safety in dollars? What is the margin of safety ratio?

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2. What is Harold’s margin of safety and operating profit if sales should fall to $500,000?

Step 1 of 4

The margin of safety is the amount by which the revenue exceeds breakeven revenue. In terms of unit margin of safety is a difference between the sales quantity and the breakeven quantity. The margin of safety can be calculated in the number of units produced, in money value or in percentage. The sales used for the margin of safety can be budgeted sales or actual sales.