Cost Behavior and Cost Volume Profit PDF

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MANAGEMENT SERVICES COST BEHAVIOR & CVP ANALYSISCOST EQUATION Cost Estimation Equation, Total Cost Horngren Write a linear cost function equation for each of the following conditions. Use y for estimated costs and X for activity of the cost driver. a. Direct manufacturing labor is $10 per hour. ...

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MANAGEMENT SERVICES COS T E QUAT ATII O N 1 . Cos t Est ima ti on Equ ati on, Tot Totaal Co st Horngren Write a linear cost function equation for each of the following conditions. Use y for estimated costs and X for activity of the cost driver. a. Direct manufacturing labor is $10 per hour. b. Direct materials cost $9.20 per cubic yard. c. Utilities have a minimum charge of $1,000, plus a charge of $0.05 per kilowatt-hour. d. Machine operating costs include $200,000 of machine depreciation per year, plus $75 of utility costs for each day the machinery is in operation. 2

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COST BEHAVIOR & CVP ANALYSIS Required: a. Compute the variable cost per unit. b. Compute the total fixed cost. 6

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Hig h- Low Me tho d - Co st Eq uat ion , Tot Totaa l C ost Horngren Wimmer’s Storage ran its freezer in February, a slow month, for 360 hours for a total cost of $57,600. In July, a peak month, the freezer ran for 720 hours for a total cost of $82,080. Required: a. What is the cost estimating equation for the department if hours of freezer use are used as the cost driver? b. What is the estimated total cost at an operating level of 500 hours?

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Hig h- Low Me tho d – Un it Var Variia ble Co st, Fi xed Co st s L&H Bennco has an average unit cost of $18.50 at a volume of 100,000 units. At 200,000 units the average unit cost is $14.25. Required: a. Compute the variable cost per unit. b. Compute the total fixed cost.

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Hig h- Low Me tho d – Var Varii abl e Cos t R ati o, Fi xed Co sts L&H Genner Company earned $125,000 on sales of $750,000. It earned $225,000 on sales of $1,000,000. Required: a. Find the variable costs as a percentage of sales. b. Find the total fixed costs.

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Hig h- Low Me tho d – U nit Va Varria ble C ost , F ixe d Cos ts L&H Danner has an average unit cost of $22.50 at a volume of 400,000 units. At 500,000 units the average unit cost is $20.50.

Exercises & Problems

Hig h- Low Me tho d – Va Varri abl e C ost Ra ti o, Fix ed Cos t L&H A controller is interested in analyzing the fixed and variable costs of indirect labor as related to direct labor hours. The following data have been accumulated: Month Indirect Labor Cost Direct Labor Hours March $2,880 425 April 3,256 545 May 2,820 440 June 3,225 560 July 3,200 540 August 3,200 495 Required: Determine the amount of the fixed portion of indirect labor expense and the variable rate for indirect labor expense, using the high and low points method. (Round the variable rate to three decimal places and the fixed cost to the nearest whole dollar.)

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Hig h- Low Me tho d – Co st Eq uat ion , Tot Totaa l C ost The Wildcat Company has provided the following information: Units of Output 30,000 Units Direct materials $ 180,000 Workers' wages 1,080,000 Supervisors' salaries 312,000 Equipment depreciation 151,200 Maintenance 81,600 Utilities 384,000 Total $2,188,800

Horngren 42,000 Units $ 252,000 1,512,000 312,000 151,200 110,400 528,000 $2,865,600

Required: Using the high-low method and the information provided above, a. identify the linear cost function equation and b. estimate the total cost at 36,000 units of output.

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Hig h- Low Me tho d Cost Eq ua tio n, Cos t Dri ver Horngren Tessmer Manufacturing Company produces inventory in a highly automated assembly plant in Olathe, Kansas. The automated system is in its first year of operation and management is still unsure of the best way to estimate the overhead costs of operations for budgetary purposes. For the first six months of operations, the following data were collected: Observation Machine-hours Kilowatt-hours Total Overhead Costs January 3,800 4,520,000 $138,000 February 3,650 4,340,000 136,800 March 3,900 4,500,000 139,200 April 3,300 4,290,000 136,800 May 3,250 4,200,000 126,000 June 3,100 4,120,000 120,000 Required: a. Use the high-low method to determine the estimating cost function with machine-hours as the cost driver. b. Use the high-low method to determine the estimating cost function with kilowatt-hours as the cost driver. c. For July, the company ran the machines for 3,000 hours and used 4,000,000 kilowatthours of power. The overhead costs totaled $114,000. Which cost driver was the best predictor for July?

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Hig h- Low Me tho d – Va Varri abl e C ost s & F ixe d C ost s L & H 10e The owner of Bed and Bath Boutique regularly uses part-time help in addition to full time employees. Some part-time help is needed every day for miscellaneous chores, and the owner arranges for additional hours based on her estimates of sales for the following week. The following is a record of the wages paid to part-time employees at recent monthly sales volumes. Sales Wages Paid to Part-Time Help $ 8,210 $ 629 1,950 558 6,340 710 17,650 1,360 18,100 1,350 13,800 1,130 15,040 1,466 5,050 675 11,000 1,014

Exercises & Problems

COST BEHAVIOR & CVP ANALYSIS The owner considers these months to be relatively normal; however, in the month with sales of $1,950, the Boutique was closed for over two weeks for repainting and installing new carpeting. Required: Determine the variable cost rate and fixed costs using the high-low method. 10

. Hig h- Low Me tho d – Va Varri abl e C ost s & F ixe d C ost s, In com e St Staat eme nt L & H 10e The chief accountant of Laredo, Inc. prepared the following income statements, in thousands. April May Sales $1,100.0 $1,160.0 Cost of sales 670.0 688.0 Gross margin $ 430.0 $ 472.0 Selling and administrative expenses 370.0 382.0 Income before taxes $ 60.0 $ 90.0 Required: 1. Determine the fixed and variable components of cost of sales and of selling and administrative expenses. 2. Prepare income statements for April and May using the contribution-margin format. Comment on the differences between the previous statements and the ones that you prepared.

METHOD OF LEAST S SQUARES QUARES REGR REGRESSION ESSION ANAL NALY YSIS 11 . L eas t Squ are s – Un it Var Variiab le Co st & Tot Totaal Fi xed C ost s Barfield A company owns two automobiles that are used by employees on company business, usually for short trips. Mileage and expenses, excluding depreciation, by quarters were as follows during a typical year (quarters instead of months are used to simplify the arithmetic): Quarter Mileage Expenses First 3,000 $ 550 Second 3,500 560 Third 2,000 450 Fourth 3,500 600 12,000 $2,160

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MANAGEMENT SERVICES Required: Determine the variable cost per mile (nearest tenth of a cent) and the fixed costs per quarter, using the method of lease squares. 12

. Sim ple R egr ess ion – Int er pre tat ion o f R esu lts L&H The statistician of RST, Inc. has developed the following cost-prediction equation, using observations from 12,000 to 30,000 machine hours. Y = $236,837 + $3.7625X, r-squared = .81, standard error = $24,363 Y = total maintenance cost, X = machine hours

COST BEHAVIOR & CVP ANALYSIS BRE AK -EV EN CHA RT 14 . Ter Term mi nol ogy o n B rea k -Eve n Cha rt A traditional break-even chart is illustrated in Figure 20-2. Required: Identify each letter on the chart, using the proper terminology.

Carter & Usry

Required: a. Find the predicted maintenance cost at 25,000 machine hours. b. Will maintenance cost at zero machine hours be $236,837? yes no Circle the correct answer. c. About 68% of the time, maintenance cost should be within what amount of the predicted value? 13

. Sim ple R egr ess ion – Int er pre tin g R es ul ultts Horngren The new cost analyst in your accounting department has just received a computer-generated report that contains the results of a simple regression program for cost estimation. The summary results of the report appear as follows: Variable Coefficient Standard Error t-Value Constant 35.92 16.02 2.24 Independent variable 563.80 205.40 2.74 r2 = 0.75 Required: a. What is the cost estimation equation according to the report? b. What is the goodness of fit? What does it tell about the estimating equation?

Exercises & Problems

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COST BEHAVIOR & CVP ANALYSIS

PRO FI T PL ANN ING 15 . Inc rem en tal sa les Barfield 4e Brunswick Industries has annual sales of $2,500,000 with variable expenses of 60 percent of sales and fixed expenses per month of $40,000. By how much will annual sales have to increase for Brunswick Industries to have pretax income equal to 30 percent of sales? 16

Required: 1. Determine the profit that the company expects to earn. 2. Determine fixed costs, the break-even point, and the margin of safety. 3. If sales are $700,000, what will profit be? 4. The presidents wants a $120,000 profit. Expected unit volume is the same as for the previous statement. By what percentage must the company increase its selling price to achieve the goal? Assume the per-unit cost of sales remains constant.

. Con tri but io n M arg in Rat io, F ixe d C ost s L&H Scooter Company earned $150,000 on sales of $1,000,000. It earned $330,000 on sales of $1,400,000. Required: a. Find the contribution margin ratio. b. Find the total fixed costs.

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The president tells you that cost of sales is all variable and that the only other variable cost is commissions, which are 10% of sales, and are included in the “other expenses” category.

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. BE P, Co st St ruc tur e O pti ons ( Dif fificcul t) Horngren Karen Hefner, a florist, operates retail stores in several shopping malls. The average selling price of an arrangement is $30 and the average cost of each sale is $18. A new mall is opening where Karen wants to locate a store, but the location manager is not sure about the rent method to accept. The mall operator offers the following three options for its retail store rentals: 1. paying a fixed rent of $15,000 a month, 2. paying a base rent of $9,000 plus 10% of revenue received, or 3. paying a base rent of $4,800 plus 20% of revenue received up to a maximum rent of $25,000. Required: a. For each option, compute the breakeven sales and the monthly rent paid at break-even. b. Beginning at zero sales, show the sales levels at which each option is preferable up to 5,000 units.

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. Per ce nta ge inc ome s tat eme nt ( Diff icu lt) L & H 10e The president of Milliard industries has developed the following income statement showing expected percentage results at sales of $800,000. Sales 100% Cost of sales 60% Gross margin 40% Other expenses 30% Income 10%

Exercises & Problems

. CV P an aly sis fo r a n a ir lin e L & H 10e A recent annual report of Delta Air Lines contained the following data, in millions of dollars Operating revenues $16,741 Operating expenses $15,003 Operating income $1,738 Load factor (percentage of available seat-mile occupied) 72.9% Break-even load factor 64.8% Required: 1. Determine the variable costs as a percentage of revenue for Delta Air Lines. (Hint: Find total revenue and total cost at breakeven, then use the high-low method.) 2. Determine fixed operating costs for Delta Air Lines. 3. Determine what operating income Delta Air Lines would have earned had it flown its aircraft 73.9% full (one percentage point higher than it actually did). 4. What does your answer to requirement 3 tell you about how to be successful in the airline industry?

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. Rel at ion shi ps L & H 10e Answer the following questions, considering each situation independently. You might not be able to answer the questions in the order they are asked. 1. A company earned $200,000 selling 100,000 units at $8 per unit. Its fixed costs are $400,000. A. What are variable cost per unit? B. What is total contribution margin? C. What would income be if sales increased by 5,000 units?

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A company has return on sales of 20%, income of $50,000, selling price of $10, and a contribution margin of 40%. A. What are fixed costs? B. What are variable costs per units? C. What are sales in units? D. What are sales in dollars? 3. A company has return on sales of 15% at sales of $400,000. Its fixed cost are $90,000; variable costs are $25 per unit. A. What are sales in units? B. What is contribution margin per unit? C. What is income? 21

. Com pr ehe nsi ve Pro ble m L & H 10e After reviewing its cost structure (variable costs of $7.50 per unit and monthly fixed costs of $60,000) and potential market, Forecast Company established what it considered to be a reasonable selling price. The company expected to sell 50,000 units per month and planned its monthly results as follows. Sales $500,000 Variable costs 375,000 Contribution margin $125,000 Fixed costs 60,000 Income before taxes $ 65,000 Income taxes (at 40%) 26,000 Net income $ 39,000 Required: Using the preceding information, answer the following questions independently. 1. What selling price did the company establish? 2. What is the contribution margin per unit? 3. What is the break-even point in units? 4. If the company determined that a particular advertising campaign had a high profitability of increasing sales by 3,000 units, how much could it pay for such a campaign without reducing its planned profits? 5. If the company wants a $60,000 before-tax profit, how many units must it sell? 6. If the company wants a 10% before-tax return on sales, what level of sales, in dollars, does it need? 7. If the company wants a $45,000 after-tax profit, how many units must it sell? 8. If the company wants an after-tax return on sales of 9%, how many units must it sell?

Exercises & Problems

COST BEHAVIOR & CVP ANALYSIS 9. If the company wants an after-tax profit of $45,000 on its expected sales volume of 50,000 units, what price must it charge? 10. If the company wants a before-tax return on sales of 16% on its expected sales volume of 50,000 units, what price must it charge? 11. The company is considering offering its salespeople a 5% commission on sales. What would the total sales, in dollars, have to be in order to implement the commission plan and still earn the planned pre-tax income of $65,000? SA LES MI X IN UNIT S & I N D OLL ARS 22 . P rod uct pr ofi ta bil ity L & H 10e Gerber company produces three models of pen and paper sets, regular, silver and gold. Price and cost data are as follows. Regular Silver Gold Selling price $10 $20 $30 Variable costs 6 8 15 Monthly fixed cost are $200,000. Required: 1. Which model is most profitable per unit sold? 2. Which model is most profitable per dollar sales? 3. Suppose the sales mix in dollars is 40% Regular, 20% Silver, and 40% Gold. a. What is the weighted-average contribution margin? b. What is the monthly break-even point? c. What sales volume will yield a profit of $30,000 per month? 4. Suppose the sales mix in dollars is 30% Regular, 30% Silver, and 40% Gold. a. What is the break-even point? b. What sales volume is necessary to earn $30,000 per month? 5. Suppose that the sales mix in units is 40% Regular, 20% Silver, and 40% Gold. a. What is the weighted-average unit contribution margin? b. What is the break-even point in total units? c. How many total units must Gerber sell to earn $30,000 per month?

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COST BEHAVIOR & CVP ANALYSIS

DEGREE OF OPERA OPERATING TING LLEVERAGE EVERAGE & MARG MARGIN IN OF SAFETY 23 . Op era tin g l eve rag e, ma rgi n o f saf ety Barfield 4e One of the products produced by Orlando Citrus is citrus Delight. The selling price per halfgallon is $4.50, and variable cost of production is $2.70. total fixed costs per year are $316,600. The company is currently selling 200,000 half –gallons per year. A. What is the margin of safety in units? B. What is the degree of operating leverage? C. If the company can increase sales in units by 30 percent, what percentage increase will it experience in income? Prove your answer using the income statement approach. D. If the company increases advertising by $41,200, sales in units will increase by 15 percent. What will be the new break-even point? The new degree of operating leverage?

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SEN SI TIV ITY AN ANA ALYS LYSIIS 27 . Ind if fe ferre nc ncee poi nt L & H 10e Travelco sells one of its products, a piece of soft-sided luggage, for $60. Variable cost per unit is $34, and monthly fixed costs are $60,000. A combination of changes in the way Travelco produces and sells this product could reduce per-unit variable cost to $28 but increase monthly fixed costs to $104,000.

. D egr ee of Op er eraat ing Le ver age & Pr ofi t S ens it ivit y Prull Corporation had the following income statement for 1995: Sales Variable costs Contribution margin Fixed costs Net income

H&M $50,000 30,000 $20,000 8,000 $12,000

Required: a. Calculate the operating leverage ratio. b. If sales increase by 20 percent, what will be the percentage change in income? c. If sales increase by $15,000, how much will income increase? 25

. BE P, Var Varii a ble Co st Rat io L & H 10e Mound Company has a before-tax return on sales of 9% and a 25% margin of safety. Current sales are $800,000. Required: a. Calculate break-even sales. b. Find Mound's variable cost percentage.

Exercises & Problems

. BE P, M arg in of Saf et y, S ens it ivi ty Anal ys is Horngren Alex Miller, Inc., sells car batteries to service stations for an average of $30 each. The variable cost of each battery is $20 and monthly fixed manufacturing costs total $10,000. Other monthly fixed costs of the company total $8,000. Required: a. What is the breakeven point in batteries? b. What is the margin of safety, assuming sales total $60,000? c. What is the breakeven level in batteries, assuming variable costs increase by 20%? d. What is the breakeven level in batteries, assuming the selling price goes up by 10%, fixed manufacturing costs decline by 10%, and other fixed costs decline by $100?

Required: 1. Determine the monthly break-even points under the two available alternatives. 2. Determine the indifference point of the two alternatives. 28

. Se nsi tiv ity o f v ari abl es Canston Jellies expects the following results for the coming year. Planned sales in cases Selling price Variable costs Total fixed costs

L & H 10e 50,000 $25 $18 $300,000

Required: Answer the following questions, considering each independently. 1. Which of the following would reduce planned profit the most? a. A 10% decrease in selling price. b. A 10% increase per case in variable costs. c. A 10% increase in fixed costs. d. A 10% decrease in sales volume. Page 6 of 18

MANAGEMENT SERVICES

COST BEHAVIOR & CVP ANALYSIS

2. Which of the following will increase planned profit the most? a. A 10% increase in selling price. b. A 10% decrease per case in variable costs. c. A 10% increase in sales volume. d. A 10% decrease in fixed costs. 3. If the selling price declined by 10%, how many cases would have to be sold to achieve the planned profit? 4. If the selling price increased by 20%, by how much could variable cost per case increase and the planned profit be achieved? 29

. Cha ng es in ope rat ion s L & H 10e Bart Packard operates the 15th Street Parking Lot, leasing the lot from the owner at $12,000 per month plus 10% of sales. Packard is thinking about staying open until midnight. He now closes at 7p.m. Keeping the lot open requires paying an additional $800 per week to attendants, with increases in utilities and insurance being another $100 per week. The lot pays a 5% city tax on its total revenue. The parking charge is $0.80 per hour.

percentage. d. Determine Speedy Mouse Inc.’s margin of safety in units, in sales dollars, and as a percentage. e. Compute Speedy Mouse Inc...