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Margin of Safety

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When Maria was considering buying the peanut butter cookie plant, one of her options was to convert it to make more lemon crème cookies, since near-term demand for the lemon crème cookies exceeded current capacity by 600,000 packs. What should Maria have done if the breakeven volume of lemon crème cookies in this new plant were 650,000 packs and continuing to make peanut butter cookies would not have been profitable?

When considering a large bulk order, how should one use the concept of contribution margin to decide which cookie's production to reduce in order to free up enough capacity to accept the bulk order? Under what circumstances should she not have accepted the bulk order?

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Maria should discontinue making peanut butter cookies as it is not profitable. It should increase the capacity of the plant much beyond the 600000 packs as its break even point is 650000 packs. Now one should know following terms to do break even analysis:



Solution Summary

This provides the steps to calculate the Margin of Safety

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Compute contribution margin, break-even and margin safety for Paula's Beauty Salon

In the month of June, Paula's Beauty Salon gave 3,500 haircuts, shampoos, and permanents at an average price of $30. During the month, fixed costs were $16,800 and variable costs were 80% of sales.

1. Determine the contibution margin in dollars, per unit and as a ratio.
2. Using the contribution margin technique, compute the break-even point in dollars and in units.
3. Compute the margin of safety in dollars and as a ratio.

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