Professional Documents
Culture Documents
Cost-Volume-Profit Analysis
ANSWERS TO REVIEW QUESTIONS
8.1 The term unit contribution margin refers to the contribution that each unit of sales
makes toward covering fixed expenses and earning a profit. The unit contribution
margin is defined as the sales price minus the unit variable expense.
8-2
In addition to the break-even point, a CVP graph shows the impact on total expenses,
total revenue, and profit when sales volume changes. The graph shows the sales
volume required to earn a particular target net profit. The firm's profit and loss areas
are also indicated on a CVP graph.
8-3
fixed expenses
unit contribution margin
fixed
unit
varia
ble
sales
volume
expenses = 0
in units
expense
The safety margin is the amount by which budgeted sales revenue exceeds breakeven sales revenue.
8-5
An increase in the fixed expenses of any enterprise will increase its break-even
point. In a travel agency, more clients must be served before the fixed expenses are
covered by the agency's service fees.
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8-6
A decrease in the variable expense per pound of oysters results in an increase in the
contribution margin per pound. This will reduce the company's break-even sales
volume.
8-7
8-8
When the sales price and unit variable cost increase by the same amount, the unit
contribution margin remains unchanged. Therefore, the firm's break-even point
remains the same.
8-9
The fixed annual donation will offset some of the museum's fixed expenses. The
reduction in net fixed expenses will reduce the museum's break-even point.
8-10
A profit-volume graph shows the profit to be earned at each level of sales volume.
8-11
8-12
McGraw-Hill/Irwin
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8-2
8-13
The gross margin is defined as sales revenue minus all variable and fixed
manufacturing expenses. The total contribution margin is defined as sales revenue
minus all variable expenses, including manufacturing, selling, and administrative
expenses.
8-14
East Company, which is highly automated, will have a cost structure dominated by
fixed costs. West Company's cost structure will include a larger proportion of
variable costs than East Company's cost structure.
A firm's operating leverage factor, at a particular sales volume, is defined as its
total contribution margin divided by its net income. Since East Company has
proportionately higher fixed costs, it will have a proportionately higher total
contribution margin. Therefore, East Company's operating leverage factor will be
higher.
8-15
When sales volume increases, Company X will have a higher percentage increase in
profit than Company Y. Company X's higher proportion of fixed costs gives the firm
a higher operating leverage factor. The company's percentage increase in profit can
be found by multiplying the percentage increase in sales volume by the firm's
operating leverage factor.
8-16
The sales mix of a multiproduct organization is the relative proportion of sales of its
products.
The weighted-average unit contribution margin is the average of the unit
contribution margins for a firm's several products, with each product's contribution
margin weighted by the relative proportion of that product's sales.
8-17
The car rental agency's sales mix is the relative proportion of its rental business
associated with each of the three types of automobiles: subcompact, compact, and
full-size. In a multi-product CVP analysis, the sales mix is assumed to be constant
over the relevant range of activity.
8-18
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8-19
8.20
The low-price company must have a larger sales volume than the high-price
company. By spreading its fixed expense across a larger sales volume, the low-price
firm can afford to charge a lower price and still earn the same profit as the high-price
company. Suppose, for example, that companies A and B have the following
expenses, sales prices, sales volumes, and profits.
Company A
Sales revenue:
350 units at $10..............................................
100 units at $20..............................................
Variable expenses:
350 units at $6................................................
100 units at $6................................................
Contribution margin.............................................
Fixed expenses....................................................
Profit.....................................................................
Company B
$3,500
$2,000
2,100
$1,400
1,000
$ 400
600
$1,400
1,000
$ 400
8-21
The statement makes three assertions, but only two of them are true. Thus the
statement is false. A company with an advanced manufacturing environment
typically will have a larger proportion of fixed costs in its cost structure. This will
result in a higher break-even point and greater operating leverage. However, the
firm's higher break-even point will result in a reduced safety margin.
8-22
McGraw-Hill/Irwin
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8-4
SOLUTIONS TO EXERCISES
EXERCISE 8-23 (25 MINUTES)
1
2
3
4
Sales
Revenue
$160,000a
80,000
120,000
110,000
Variable
Expenses
$40,000
65,000
40,000
22,000
Total
Contribution
Margin
$120,000
15,000
80,000
88,000
Fixed
Expenses
$30,000
15,000b
30,000
50,000
Net
Income
$90,000
-050,000
38,000
Break-even
Sales
Revenue
$40,000
80,000
45,000c
62,500d
$40,000
30,000
$10,000
$80,000 is the break-even sales revenue, so fixed expenses must be equal to the
contribution margin of $15,000 and profit must be zero.
$45,000 = $30,000 (2/3), where 2/3 is the contribution-margin ratio.
2.
fixed expenses
Contribution-margin ratio
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$40,000
= 8,000 pizzas
$10 $5
$10 $5
= .5
$10
fixed expenses
= contribution-margin ratio
=
4.
$40,000
= $80,000
.5
Let X denote the sales volume of pizzas required to earn a target net profit of
$65,000.
$10X $5X $40,000 = $65,000
$5X = $105,000
X = 21,000 pizzas
fixed costs
4,000,000 p
3,000 p 2,000 p
= 4,000 components
p denotes Argentinas peso, worth 1.004 U.S. dollars on the day this exercise was
written.
2.
3.
(4,000,000 p ) (1.10)
3,000 p 2,000 p
4,400,000 p
= 4,400 components
1,000 p
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8-6
4,000,000 p
5.
2,500p
15,500,000p
12,400,000p
3,100,000p
4,000,000p
(900,000p)
The price cut should not be made, since projected net income will decline.
McGraw-Hill/Irwin
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Cost-volume-profit graph:
$300,000
Total expenses
Break-even point:
20,000 tickets
$250,000
Profit
area
Variable
expense
(at 30,000
tickets)
$200,000
$150,000
Loss area
$100,000
Annual fixed
expenses
$50,000
5,000
McGraw-Hill/Irwin
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8-8
10,000
15,000
20,000
25,000
30,000
Tickets sold
per year
Stadium capacity................................................
Attendance rate...................................................
Attendance per game.........................................
10,000
50%
5,000
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Profit-volume graph:
$100,000
$50,000
Break-even point:
20,000 tickets
0
$(50,000)
5,000
10,000
15,000
Profit area
20,000
25,000
Tickets sold
per year
Loss
area
$(100,000)
Annual fixed
expenses
$(150,000)
$(180,000)
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Safety margin:
Budgeted sales revenue
(12 games 10,000 seats .30 full $10).............................................
Break-even sales revenue
(20,000 tickets $10)...............................................................................
Safety margin.................................................................................................
3.
$360,000
200,000
$160,000
Let P denote the break-even ticket price, assuming a 12-game season and 50 percent
attendance:
(12)(10,000)(.50)P (12)(10,000)(.50)($1) $180,000 = 0
60,000P
P
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8-12
= $240,000
= $4 per ticket
$2,000,000
1,500,000
$ 500,000
$150,000
150,000
300,000
$ 200,000
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$2,000,000
$1,000,000
100,000
30,000
$ 500,000
50,000
120,000
1,130,000
$ 870,000
670,000
$ 200,000
contribution margin
net income
$870,000
=4.35
$200,000
4.
Most operating managers prefer the contribution income statement for answering this
type of question. The contribution format highlights the contribution margin and
separates fixed and variable expenses.
Sales
Price
$500
300
Unit
Variable Cost
$300 ($275 + $25)
150 ($135 + $15)
Unit
Contribution Margin
$200
150
Sales mix:
High-quality bicycles........................................................................................
Medium-quality bicycles...................................................................................
3.
Weighted-average unit
contribution margin
25%
75%
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8-14
4.
fixed expenses
weighted-average unit contribution margin
$65,000
=
= 400 bicycles
$162.50
Bicycle Type
High-quality bicycles
Medium-quality bicycles
Total
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Break-Even
Sales Volume
100 (400 .25)
300 (400 .75)
Sales Price
$500
300
Sales
Revenue
$ 50,000
90,000
$140,000
This means that the shop will need to sell the following volume of each type of
bicycle to earn the target net income:
High-quality...........................................................................
Medium-quality.....................................................................
Revenue..............................................................
Variable expenses..............................................
Contribution margin...........................................
Fixed expenses...................................................
Net income..........................................................
Amount
$500,000
300,000
$200,000
150,000
$ 50,000
Percent
100
60
40
30
10
2.
Decrease in
Revenue
$75,000*
Contribution Margin
Percentage
40%
Decrease in
Net Income
$30,000
40% = $200,000/$500,000
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8-16
4.
contribution margin
net income
$200,000
=4
$50,000
percentageincrease operatingleverage
Percentagechangein etincome=
inrevenue factor
= 20% 4
= 80%
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Requirement (1)
$600,000
360,000
$240,000
210,000
$ 30,000
Requirement (2)
$ 500,000
600,000
$ (100,000)
125,000
$ (225,000)
1.
2.
McGraw-Hill/Irwin
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8-18
3.
4.
A change in the tax rate will have no effect on the firm's break-even point. At the breakeven point, the firm has no profit and does not have to pay any income taxes.
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SOLUTIONS TO PROBLEMS
PROBLEM 8-34 (30 MINUTES)
1.
$600,000
$4
= 150,000 units
2.
3.
=
=
$800,000
=
.0625
= $12,800,000
McGraw-Hill/Irwin
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8-20
Let P denote the selling price that will yield the same contribution-margin ratio:
$16
$10
$2
P
$13
$2
=
$16
P
P
$15
.25 =
P
.25 P =P
$15
$15 =.75 P
P =$15/.75
P =$20
Break-even point =
2.
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= $8 110%
= $8.80
4.
Let P denote the selling price that will yield the same contribution-margin ratio:
$20.00
$8.00
$4.00
P
$8.80
$4.00
=
$20.00
P
P
$12.80
.4 =
P
.4P =P
$12.80
$12.80 =.6 P
P =$12.80/.6
P =$21.33 (rounded)
McGraw-Hill/Irwin
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8-22
$64.00
19.20
$44.80
Model no. 4399 is more profitable when sales and production average 46,000 units.
Model
No. 6754
Model
No. 4399
$2,944,000
$2,944,000
$ 147,200
$ 147,200
736,000
$ 883,200
$2,060,800
985,600
$1,075,200
588,800
$ 736,000
$2,208,000
1,113,600
$1,094,400
Annual fixed costs will increase by $90,000 ($450,000 5 years) because of straightline depreciation associated with the new equipment, to $1,203,600 ($1,113,600 +
$90,000). The unit contribution margin is $48 ($2,208,000 46,000 units). Thus:
Required sales = (fixed costs + target net profit) unit contribution margin
= ($1,203,600 + $956,400) $48
= 45,000 units
4.
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Current income:
Sales revenue...
Less: Variable costs $ 840,000
Fixed costs. 2,280,000
Net income.
$3,360,000
3,120,000
$ 240,000
If operations are shifted to Mexico, the new unit contribution margin will be $62 ($80 $18). Thus:
Break-even point = fixed costs unit contribution margin
= $1,984,000 $62
= 32,000 units
3.
(a)
Advanced Electronics desires to have a 32,000-unit break-even point with a
$60 unit contribution margin. Fixed cost must therefore drop by $360,000
($2,280,000 - $1,920,000), as follows:
Let X = fixed costs
X $60 = 32,000 units
X = $1,920,000
(b)
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8-24
(a)
Increase
(b)
No effect
(c)
Increase
(d)
No effect
Sales mix refers to the relative proportion of each product sold when a company
sells more than one product.
2.
(a)
Yes. Plan A sales are expected to total 65,000 units (45,500 + 19,500), which
compares favorably against current sales of 60,000 units.
(b)
Yes. Sales personnel earn a commission based on gross dollar sales. As the
following figures show, Deluxe sales will comprise a greater proportion of
total sales under Plan A. This is not surprising in light of the fact that Deluxe
has a higher selling price than Basic ($86 vs. $74).
Current
Units
Sales
Mix
Plan A
Units
Sales
Mix
45,500 70%
19,500 30%
65,000 100%
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No. The company would be less profitable under the new plan.
Sales revenue:
Deluxe: 39,000 units x $86; 45,500 units x $86
Basic: 21,000 units x $74; 19,500 units x $74..
Total revenue.
Less variable cost:
Deluxe: 39,000 units x $65; 45,500 units x $65
Basic: 21,000 units x $41; 19,500 units x $41..
Sales commissions (10% of sales revenue).
Total variable cost
Contribution margin..
Less fixed cost (salaries).
Net income...
3.
(a)
Plan A
$3,354,000
1,554,000
$4,908,000
$3,913,000
1,443,000
$5,356,000
$2,535,000
861,000
$2,957,500
799,500
535,600
$4,292,600
$1,063,400
---$1,063,400
$3,396,000
$1,512,000
400,000
$1,112,000
The total units sold under both plans are the same; however, the sales mix
has shifted under Plan B in favor of the more profitable product as judged by
the contribution margin. Deluxe has a contribution margin of $21 ($86 - $65),
and Basic has a contribution margin of $33 ($74 - $41).
Plan A
Units
Sales
Mix
McGraw-Hill/Irwin
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8-26
Current
Plan B
Units
Sales
Mix
26,000 40%
39,000 60%
65,000 100%
Plan B is more attractive both to the sales force and to the company.
Salespeople earn more money under this arrangement ($549,900 vs. $400,000)
and the company is more profitable ($1,283,100 vs. $1,112,000).
Sales revenue:
Deluxe: 39,000 units x $86; 26,000 units x $86
Basic: 21,000 units x $74; 39,000 units x $74..
Total revenue.
Less variable cost:
Deluxe: 39,000 units x $65; 26,000 units x $65
Basic: 21,000 units x $41; 39,000 units x $41..
Total variable cost
Contribution margin..
Less: Sales force compensation:
Flat salaries...
Commissions ($1,833,000 x 30%)
Net income ..
Current
Plan B
$3,354,000
1,554,000
$4,908,000
$2,236,000
2,886,000
$5,122,000
$2,535,000
861,000
$3,396,000
$1,512,000
$1,690,000
1,599,000
$3,289,000
$1,833,000
400,000
$1,112,000
549,900
$1,283,100
2.
Operating leverage refers to the use of fixed costs in an organizations overall cost
structure. An organization that has a relatively high proportion of fixed costs and
low proportion of variable costs has a high degree of operating leverage.
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Plan A
Plan B
$480,000
$480,000
$300,000
48,000
$348,000
$132,000
22,000
$110,000
$300,000
---$300,000
$180,000
66,000
$114,000
Plan A
Plan B
$400,000
$400,000
$250,000
40,000
$290,000
$110,000
22,000
$ 88,000
$250,000
---$250,000
$150,000
66,000
$ 84,000
McGraw-Hill/Irwin
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8-28
McGraw-Hill/Irwin
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1.
2.
fixed cost
contribution-margin ratio
$468,000
$25.00 $19.80
$25.00
3.
4.
= $2,250,000
$468,000 +$260,000
=
=140,000 units
$25.00 $19.80
5.
McGraw-Hill/Irwin
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8-30
$468,000
= 97,500 units
$4.80
$25.00 $19.80
$25.00
=.208
Let P denote sales price required to maintain a contribution-margin ratio of .208. Then
P is determined as follows:
P $10.50 ($5.00)(1.08) $3.00 $1.30
= .208
P
P $20.20 = .208P
.792P = $20.20
P = $25.51 (rounded)
Check:
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Total revenue
Dollars per year
(in millions)
10
9
8
7
Profit
area
Break-even point:
80,000 units or
$4,000,000 of sales
Total expenses
6
5
4
3
Loss
2 area
Fixed expenses
1
50
McGraw-Hill/Irwin
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8-32
100
150
200
Break-even point:
contribution margin $6,000,000
=
=.75
sales
$8,000,000
fixed expenses
$3,000,000
Break -even point =
=
contribution-margin ratio
.75
=$4,000,000
Contribution-margin ratio =
3.
4.
5.
6.
Cost structure:
Sales revenue.......................................................
Variable expenses................................................
Contribution margin.............................................
Fixed expenses....................................................
Net income............................................................
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Amount
$8,000,000
2,000,000
$6,000,000
3,000,000
$3,000,000
Percent
100.0
25.0
75.0
37.5
37.5
(a)
sales
variable c
=
units sold
$1,000,000
$70
=
100,000
Break -even point (in units)
fixed costs
=
unit contribution m
$210,000
=
$3
=
70,00
contribution m
Contribution-margin ratio =
sales reven
(b)
$1,000,000
$
=
$1,000,00
fixed c
Break -even point (in sales dollars) =
contribution-m
$210,000
=
=
$7
.3
2.
fixed costs +
=
$210,000 +
=
$90,000
(1 .4)
$3
$360,000
$3
= 120,000 units
3.
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8-34
$210,000 + $31,500
= 80,500 units
$3
$500,000
$250,000
Break-even point:
70,000 units
Loss 25,000
area
50,000
75,000
Profit
area
100,000
$(250,000)
$(500,000)
$(750,000)
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fixed costs +
=
$210,000 +
=
$90,000
(1 .5)
$3
$390,000
$3
= 130,000 units
In order to break even, during the first year of operations, 10,220 clients must visit the
law office being considered by Terry Smith and his colleagues, as the following
calculations show.
Fixed expenses:
Advertising...............................................................................
$ 490,000
Rent (6,000 $28)....................................................................
168,000
Property insurance..................................................................
27,000
Utilities .....................................................................................
37,000
Malpractice insurance.............................................................
180,000
Depreciation ($60,000/4)..........................................................
15,000
Wages and fringe benefits:
Regular wages
($25 + $20 + $15 + $10) 16 hours 360 days......... $403,200
Overtime wages
(200 $15 1.5) + (200 $10 1.5)..........................
7,500
Total wages............................................................ $410,700
Fringe benefits at 40%....................................................... 164,280
574,980
Total fixed expenses......................................................................
$1,491,980
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Safety margin:
Safety margin = budgeted sales revenue break-even sales revenue
Budgeted (expected) number of clients = 50 360 = 18,000
Break-even number of clients = 10,220 (rounded)
Safety margin = [($30 18,000) + ($2,000 18,000 .20 .30)]
[($30 10,220) + ($2,000 10,220 .20 .30)]
= [$30 + ($2,000 .20 .30)] (18,000 10,220)
= $150 7,780
= $1,167,000
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fixed costs
unit contribution margin
Selling price......................................
Variable costs:
Direct material..............................
Direct labor...................................
Variable overhead........................
Variable selling cost.....................
Contribution margin per unit
(a)
Computer-Assisted
Manufacturing System
$30.00
$5.00
6.00
3.00
2.00
16.00
$14.00
Labor-Intensive
Production System
$30.00
$5.60
7.20
4.80
2.00
19.60
$10.40
(b)
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3.
Operating leverage is the extent to which a firm's operations employ fixed operating
costs. The greater the proportion of fixed costs used to produce a product, the
greater the degree of operating leverage. Thus, the computer-assisted
manufacturing method utilizes a greater degree of operating leverage.
The greater the degree of operating leverage, the greater the change in
operating income (loss) relative to a small fluctuation in sales volume. Thus, there
is a higher degree of variability in operating income if operating leverage is high.
4.
5.
McGraw-Hill/Irwin
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(a)
(b)
(c)
Economy model:
Break-even volume =
$8,000
= 25,000 tubs
$1.75 $1.43
Break-even volume =
$11,000
= 27,500 tubs
$1.75 $1.35
Break-even volume =
$20,000
= 40,816 tubs (rounded)
$1.75 $1.26
Regular model:
Super model:
McGraw-Hill/Irwin
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8-40
Profit
$20
$10
Break-even point:
40,816 tubs
0
10
20
30
Profit area
40
50
Units sold
per year
(in thousands)
Loss
Loss
area
($10)
($20)
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The sales price per tub is the same regardless of the type of machine selected.
Therefore, the same profit (or loss) will be achieved with the Economy and Regular
models at the sales volume, X, where the total costs are the same.
Model
Economy....................................................
Regular.......................................................
Variable Cost
per Tub
$1.43
1.35
Total
Fixed Cost
$ 8,000
11,000
Check: the total cost is the same with either model if 37,500 tubs are sold.
Economy
Variable cost:
Economy, 37,500 $1.43..........................
Regular, 37,500 $1.35.............................
Fixed cost:
Economy, $8,000........................................
Regular, $11,000........................................
Total cost.........................................................
Regular
$53,625
$50,625
8,000
$61,625
11,000
$61,625
Since the sales price for popcorn does not depend on the popper model, the sales
revenue will be the same under either alternative.
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8-42
$625,000
Unit contribution margin =
25,000 u
1.
=
$10 per unit
fixed
Break -even point (in units) =
unit contrib
$150,000
=
$10
2.
3.
$150,000 +$140,000
=29,000 units
$10
$2.00 = $4.50 $2.50 increase in the unit cost of the new part
4.
$153,000 +$100,000*
$8
= 31,625 units
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5.
Check:
$28.33 $15 $2
$28.33
= .40 (rounded)
McGraw-Hill/Irwin
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8-44
Memorandum
Date:
Today
To:
From:
Subject:
Activity-Based Costing
The $150,000 cost that has been characterized as fixed is fixed with respect to sales
volume. This cost will not increase with increases in sales volume. However, as the activitybased costing analysis demonstrates, these costs are not fixed with respect to other
important cost drivers. This is the difference between a traditional costing system and an
ABC system. The latter recognizes that costs vary with respect to a variety of cost drivers,
not just sales volume.
2.
$26
12
$14
$ 15,000
22,400
4,500
166,100
$208,000
30,000
$238,000
fixed costs
unit contribution margin
$238,000
$14
=17,000 units
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4.
Its break-even point will be higher (17,000 units instead of 15,000 units).
(b)
The number of sales units required to show a profit of $140,000 will be lower
(27,000 units instead of 29,000 units).
(c)
These results are typical of situations where firms adopt advanced manufacturing
equipment and practices. The break-even point increases because of the
increased fixed costs due to the large investment in equipment. However, at
higher levels of sales after fixed costs have been covered, the larger unit
contribution margin ($14 instead of $10) earns a profit at a faster rate. This results
in the firm needing to sell fewer units to reach a given target profit level.
McGraw-Hill/Irwin
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8-46
The controller should include the break-even analysis in the report. The Board of
Directors needs a complete picture of the financial implications of the proposed
equipment acquisition. The break-even point is a relevant piece of information. The
controller should accompany the break-even analysis with an explanation as to
why the break-even point will increase. It would also be appropriate for the
controller to point out in the report that the advanced manufacturing equipment
would require fewer sales units at higher volumes in order to achieve a given
target profit, as in requirement (3) of this problem.
To withhold the break-even analysis from the controller's report would be a
violation of the following ethical standards:
(a)
(b)
(c)
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2.
Promotional campaign:
Increase in contribution margin (10%)...........................................................
Increase in monthly promotional expenses ($60,000/12).............................
Decrease in operating income........................................................................
3.
$ 3,600
(5,000)
$(1,400)
Sales...................................................................................
Less: variable expenses...................................................
Contribution margin..........................................................
Downtown Store
Items Sold at
Their
Variable Cost Other Items
$60,000*
$60,000*
60,000
24,000
$
-0$ 36,000
$(7,200)
6,000
$(1,200)
*$60,000 is one half of the Downtown Store's dollar sales for November 20x1.
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8-48
Hedge
Clippers
$36
$12
4
$16
$20
50,000
$1,000,000
$2,000,000
600,000
$2,600,000
$600,000
240,000
$ 360,000
2.
Weeders..................................................
Hedge Clippers.......................................
Leaf Blowers...........................................
Weighted-average unit
contribution margin..........................
(a)
Unit
Contribution
$10
20
17
(b)
Sales
Proportion
.25
.25
.50
(a) (b)
$ 2.50
5.00
8.50
$16.00
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Weeders........................................................
Hedge Clippers.............................................
Leaf Blowers.................................................
Total...............................................................
Sales
Proportion
.25
.25
.50
3.
(a)
(b)
Unit
Sales
Contribution Proportion
Weeders..........................................................
$10
.20
Hedge Clippers*.............................................
19
.20
(a) (b)
$ 2.00
3.80
7.20
$13.00
The variable manufacturing cost increases 20 percent. Thus, the unit contribution
decreases to $12 [$48 (1.2 $25) $6].
total fixed costs
weighted-average unit contribution margin
$2,600,000
=
= 200,000 units
$13
Sales proportions:
Sales
Proportions
Weeders........................................................
.20
Hedge Clippers.............................................
.20
Leaf Blowers.................................................
.60
Total..............................................................
McGraw-Hill/Irwin
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8-50
Total Unit
Sales
200,000
200,000
200,000
Product Line
Sales
40,000
40,000
120,000
200,000
$405,000
=$225 per ton
1,800
fixed costs
Break-even volume in tons =
unit contribution margin
=
2.
$247,500
=1,100 tons
$225
3.
$472,500
247,500
$225,000
Sales in tons.....................................................................
Contribution margin per ton:
Foreign order ($450 $275).......................................
Regular sales ($500 $275).......................................
Total contribution margin................................................
Foreign
Order
1,500
$175
$262,500
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Regular
Sales
1,500
$225
$337,500
$262,500
337,500
$600,000
247,500
$352,500
5.
6.
Dollar
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8-52
2.
$80.00 $52.80
=.34
$80.00
fixed expenses +
=
$22,080
(1 .40) $353,600
=
$80.00 $52.80
$27.20
$316,800 +
X=
X = 13,000 units
3.
$369,600
=10,500 units
$88.00 $52.80
Let Y denote the variable cost of the touring model such that the break-even point
for the touring model is 10,500 units.
Then we have:
$316,800
$80.00 Y
(10,500) ($80.00 Y ) = $316,800
$840,000 10,500Y = $316,800
10,500Y = $523,200
Y = $49.83 (rounded)
10,500 =
Thus, the variable cost per unit would have to decrease by $2.97 ($52.80 $49.83).
McGraw-Hill/Irwin
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4.
5.
Weighted-average unit
contribution margin
Break-even point
SUMMARY OF EXPENSES
Manufacturing....................................................................
Selling and administrative................................................
Interest...............................................................................
Costs from budgeted income statement.....................
If the company employs its own sales force:
Additional sales force costs.........................................
Reduced commissions [(.15 .10) $16,000]............
Costs with own sales force...............................................
If the company sells through agents:
Deduct cost of sales force............................................
Increased commissions [(.225 .10) $16,000].........
Costs with agents paid increased commissions............
McGraw-Hill/Irwin
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8-54
$7,200
(2,400)
2,000
$ 10,800
$4,800
(a)
$9,600,000
$16,000,000
=1 .60
=.40
$4,800,000
.40
=$12,000,000
(b)
2.
$8,800,000
$16,000,000
=1 .55
=.45
$7,200,000
Break-even sales dollars =
.45
=$16,000,000
$10,800
Contribution margin ratio =
1
$16,000
=
1
.675
=
.325
$4,800,000 +
$1,600,0
Required sales dollars to break even =
.325
$6,400,000
=
.325
=
$19,692,308
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The volume in sales dollars (X) that would result in equal net income is the volume
of sales dollars where total expenses are equal.
Total expenses with agents paid
increased commission
$10,800,000
$8,800,000
X +$4,800,000 =
X +$7,200,000
$16,000,000
$16,000,000
.675 X +$4,800,000 =.55 X +$7,200,000
.125 X =$2,400,000
X =$19,200,000
Therefore, at a sales volume of $19,200,000, the company will earn equal before-tax
income under either alternative. Since before-tax income is the same, so is after-tax
net income.
McGraw-Hill/Irwin
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8-56
SOLUTIONS TO CASES
CASE 8-53 (50 MINUTES)
1.
$2,900,000
100,000
200,000
180,000
$3,380,000
$300
100
$200
Break-even point
in patient-days
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$ 540,000
Increase in expenses:
Variable charges by medical center
(20 additional beds 90 days $100 per day)...........................................
$ 180,000
966,660
Salaries
(20,000 patient-days before additional 20 beds + 20 additional
beds 90 days = 21,800, which does not exceed 22,000 patient-days;
therefore, no additional personnel are required).........................................
Total increase in expenses.....................................................................................
Net change in earnings from rental of additional 20 beds...................................
-0$1,146,660
$ (606,660)
McGraw-Hill/Irwin
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8-58
a. In order to break even, Oakley must sell 500 units. This amount represents the
point where revenue equals total costs.
Revenue = variable costs + fixed costs
$400X = $200X + $100,000
$200X = $100,000
X = 500 units
b. In order to achieve its after-tax profit objective, Oakley must sell 2,500 units. This
amount represents the point where revenue equals total costs plus the before-tax
profit objective.
Revenue = variable costs + fixed costs +before - tax profit
$400X = $200X + $100,000 +[$240,000 (1 .4 ) ]
$400X = $200X + $100,000 + $400,000
$200X = $500,000
X = 2,500 units
2.
To achieve its annual after-tax profit objective, Oakley should select the first
alternative, where the sales price is reduced by $40 and 2,700 units are sold during
the remainder of the year. This alternative results in the highest profit and is the
only alternative that equals or exceeds the companys profit objective. Calculations
for the three alternatives follow.
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Alternative (2):
Re venue = ($400)(350) +($370)( 2,200)
= $954,000
Variable cost = ( $200)(350) ($175 )( 2,200)
= $455,000
Before - tax profit = $954,000 $455,000 $100,000
= $399,000
After - tax profit = $399,000 (1 .4 )
= $ 239,400
Alternative (3):
Re venue = ($400)(350) +($380)( 2,000)
= $900,000
Variable cost = $200 2,350
= $470,000
Before - tax profit = $900,000 $470,000 $90,000
= $340,000
After - tax profit = $340,000 (1 .4 )
= $ 204,000
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8-60
Contribution-margin ratio =
2.
$
$
100,000
90,000
160,000
350,000
$10,000,000
6,000,000
$ 4,000,000
500,000
$ 3,500,000
$3,500,000
=.35
$10,000,000
fixed expenses
contribution-margin ratio
$350,000
=
= $1,000,000
.35
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$10,000,000
6,000,000
$ 4,000,000
2,500,000
$ 1,500,000
$1,500,000
=.15
$10,000,000
fixed expenses +
=
$1,330,000
$2,000,000
(1 .3)
=
=
.15
.15
= $13,333,333 (rounded)
$100,000 +
McGraw-Hill/Irwin
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8-62
$ 13,333,333
8,000,000
$ 5,333,333
$ 3,333,333
100,000
3,433,333
$ 1,900,000
570,000
$ 1,330,000
Sales dollar volume at which Niagra Falls Sporting Goods Company is indifferent:
Let X denote the desired volume of sales.
Since the tax rate is the same regardless of which approach management chooses,
we can find X so that the companys before-tax income is the same under the two
alternatives. (In the following equations, the contribution-margin ratios of .35 and .
15, respectively, were computed in the preceding two requirements.)
.
.35X $350,000 = .15X $100,000
.20X = $250,000
X = $250,000/.20
X = $1,250,000
Thus, the company will have the same before-tax income under the two alternatives
if the sales volume is $1,250,000.
Check:
Sales.............................................................................
Cost of goods sold (60% of sales).............................
Gross margin...............................................................
Selling and administrative expenses:
Commissions...........................................................
All other expenses (fixed).......................................
Income before taxes....................................................
Income tax expense (30%)..........................................
Net income...................................................................
Alternatives
Employ
Sales
Pay 25%
Personnel
Commission
$1,250,000
$1,250,000
750,000
750,000
$ 500,000
$ 500,000
62,500*
350,000
$ 87,500
26,250
$ 61,250
312,500
100,000
$ 87,500
26,250
$ 61,250
*$1,250,000 5% = $62,500
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ISSUE 8-57
"E-COMMERCE -- DEBATE -- TALKING TO THE PLAYERS: WILL THE INTERNET TAKE
OVER COMMERCE? WE ASKED THREE PEOPLE WHO ASK THEMSELVES THAT
QUESTION ALL THE TIME," THE WALL STREET JOURNAL, JULY 12, 1999, THOMAS
E. WEBER.
According to Ken Seiff, Amazon is capturing such a huge amount of market share that it
will eventually be able to build the most cost efficient distribution system, not only in the
e-commerce field, but also in the traditional retail world. Once Amazon has developed
this system and cemented its place as the online retailer of choice, price wars will not be
as costly for Amazon as for its competitors.
McGraw-Hill/Irwin
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8-64
ISSUE 8-58
"HAPPY SHOPPER," MANAGEMENT ACCOUNTING, JULY/AUGUST 2000, TONY
BRABAZON.
The cost of losing a customer will vary across the customer life cycle. The loss can be
estimated using discounted customer contribution margin, where the discounted
customer contribution margin is calculated as the gross profit per customer less
customer-related costs such as administration, distribution and financing.
ISSUE 8-59
"POSTAL SERVICE COULD FACE LOSS," THE ASSOCIATED PRESS, AUGUST 31, 2000,
RANDOLPH E. SCHMID.
1. It is important for the U.S. Postal Service to forecast the volume and cost variables
discussed in the article so its management can determine the revenue required to
cover costs and determine cost of postage.
2. Unexpected costs will increase the break-even point in cost-volume-profit analysis.
A decline in the volume of first-class mail will decrease the weighted-average
contribution margin and increase the break-even point. An increase in advertising
mail will increase revenue and decrease the breakeven point.
ISSUE 8-60
"START YOUR OWN FIRM," JOURNAL OF ACCOUNTANCY, MAY 2000, ROBERT B. SCOTT,
JR.
1. The contribution margin is defined as sales revenue less all variable costs.
2. For a CPA firm, as described in the article, the contribution margin would be
calculated as a clients total fees less all direct-service costs, such as staff time.
According to the article, a client who generates total fees that are one and one half
times the cost to service the engagement, especially a large client, may be worth
keeping and developing. If the CPA is unable to recover at least one and one half
times the direct-service cost, the CPA should consider ending the relationship.
McGraw-Hill/Irwin
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ISSUE 8-61
"CHAIN REACTION," CMA MANAGEMENT, MARCH 1999, ANDREA SIGURDSON.
1. Cost-volume-profit analysis is a study of the relationships between sales volume,
expenses, revenue, and profit.
2. CVP analysis can be applied to determine the effectiveness of an investment, for
example, in seasonal price discounting or price specials. In price-sensitive
categories, managers can use detailed studies of consumer price elasticity to better
understand the ongoing relationship between pricing, volume and category profits.
The principles of activity-based management applied to product categories can help
management understand the actual costs of distribution and warehousing at the
individual item level. A true picture of category and subcategory profitability can
then be determined. Real estate and occupancy costs are also charged back to
product categories within the store to develop a comprehensive picture of total profit
or loss for each category. Using this information, retailers can assign strategic roles
to each product category. High profile ones, although not always strong profit
contributors, can help build overall customer traffic. Assigning clear category roles
aids in the decision making process when allocating investment resources or scarce
retail space among competing product categories.
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