EXERCISES. a. The inventory valuation under the absorption costing concept would include the fixed factory overhead cost, as follows:

Transcription

1 Ex (FIN MAN); Ex. 5 1 (MAN) EXERCISES a. The inventory valuation under the absorption costing concept would include the fixed factory overhead cost, as follows: 7,500 units $92.80 = $696,000 Direct materials... $52.00 Direct labor Fixed factory overhead Variable factory overhead... Total $92.80 b. The inventory valuation under the variable costing concept would not include the fixed factory overhead cost, as follows: 7,500 units $84.40 = $633,000 Direct materials... $52.00 Direct labor Variable factory overhead... Total $84.40 All of the fixed factory overhead cost would be expensed in the variable costing income statement as a period cost. Thus, the absorption costing income statement would have a higher net income than would the variable costing income statement. 188

2 Ex (FIN MAN); Ex. 5 2 (MAN) a. THE DULLER EDGE INC. Absorption Costing Income Statement For the Month Ended May 31, 2012 Sales... $4,000,000 Cost of goods sold (20,000 units $140.00*)... 2,800,000 Gross profit... $1,200,000 Selling and administrative expenses ($560,000 + $150,000)... Income from operations ,000 $ 490,000 *Production costs per unit: Direct materials per unit ($1,998,000/27,000 units)... $ Direct labor per unit ($972,000/27,000 units) Variable factory overhead per unit ($486,000/27,000 units) Fixed factory overhead per unit ($324,000/27,000 units)... Total production costs per unit $ b. THE DULLER EDGE INC. Variable Costing Income Statement For the Month Ended May 31, 2012 Sales... $4,000,000 Variable cost of goods sold (20,000 units $128* per unit)... 2,560,000 Manufacturing margin... $1,440,000 Variable selling and administrative expenses... Contribution margin ,000 $ 880,000 Fixed costs: Fixed factory overhead costs... $324,000 Fixed selling and administrative expenses , ,000 Income from operations... $ 406,000 *$74 + $36 + $18 = $

3 Ex (FIN MAN); Ex. 5 2 (MAN) (Concluded) c. The difference between the absorption and variable costing income from operations of $84,000 ($490,000 $406,000) can be explained as follows: Increase in inventory... 7,000 Fixed factory overhead per unit... $12.00 Difference in income from operations... $ 84,000 Under the absorption costing method, the fixed factory overhead cost included in the cost of goods sold is matched with the revenues. As a result, 7,000 units that were produced but unsold (inventory) include fixed factory overhead cost, which is not included in the cost of goods sold. Under variable costing, all of the fixed factory overhead cost is deducted in the period in which it is incurred, regardless of the amount of inventory change. Thus, when inventory increases, the absorption costing income statement will have a higher income from operations than will the variable costing income statement. 190

4 Ex (FIN MAN); Ex. 5 3 (MAN) a. PATAGUCCI INC. Absorption Costing Income Statement For the Month Ended August 31, 2012 Sales... $ 10,890,000 Cost of goods sold: Beginning inventory (6,000 $90.00)... $ 540,000 Cost of goods manufactured (60,000 $92.40)... 5,544,000 Cost of goods sold... 6,084,000 Gross profit... $ 4,806,000 Selling and administrative expenses... Income from operations... 2,604,000 $ 2,202,000 b. PATAGUCCI INC. Variable Costing Income Statement For the Month Ended August 31, 2012 Sales... $ 10,890,000 Variable cost of goods sold (66,000 units $66.00 per unit)... 4,356,000 Manufacturing margin... $ 6,534,000 Variable selling and administrative expenses... 2,079,000 Contribution margin... $ 4,455,000 Fixed costs: Fixed manufacturing costs... $1,584,000 Fixed selling and administrative expenses ,000 2,109,000 Income from operations... $ 2,346,000 c. The difference between the absorption and variable costing income from operations of $144,000 ($2,202,000 $2,346,000) can be explained as follows: Reduction in inventory... (6,000) Fixed manufacturing cost per unit (at 100% capacity) $24.00 Difference in income from operations... $ (144,000) Under the absorption costing method, the fixed manufacturing cost included in the cost of goods sold is matched with the revenues. As a result, 6,000 units that were produced but unsold in July (beginning inventory for August) include fixed manufacturing cost, which is included in the cost of goods sold for August. Under variable costing, all of the fixed manufacturing cost is deducted in the period in which it is incurred, regardless of the amount of inventory change. Thus, when inventory decreases, the absorption costing income statement will have a lower income from operations than will the variable costing income statement. 191

5 Ex (FIN MAN); Ex. 5 4 (MAN) a. Variable cost of goods manufactured per unit Variable cost of goods manufactured per unit = = Variable cost of goods manufactured Number of units produced $25,920,000 4,500 units Variable cost of goods manufactured per unit = $5,760 b. Absorption cost of goods manufactured per unit Absorption cost of goods manufactured per unit Absorption cost of goods manufactured per unit = = Total cost of goods manufactured (variable fixed) Number of units produced $25,920,000 $11,880,000 = $8,400 4,500 units Ex (FIN MAN); Ex. 5 5 (MAN) CLOWNEY COMPANY Variable Costing Income Statement For the Month Ended June 30, 2013 Sales (9,600 units)... $537,600 Variable cost of goods sold: Variable cost of goods manufactured... $397,600 1 Less inventory, June 30 (1,600 units) ,800 Variable cost of goods sold ,800 Manufacturing margin... $196,800 Variable selling and administrative expenses... Contribution margin... 45,600 $151,200 Fixed costs: Fixed manufacturing costs... $ 50,400 Fixed selling and administrative expenses... 36,480 86,880 Income from operations... $ 64,320 1 $448,000 $50,400 (total manufacturing cost less fixed manufacturing cost) 2 ($397,600/$448,000) $64,000 (the ratio of variable to total manufacturing costs times the value of the ending inventory under absorption costing); or $397,600/11,200 units manufactured = $35.50; $ ,600 units = $56,

6 Ex (FIN MAN); Ex. 5 6 (MAN) SEGER EQUIPMENT COMPANY Absorption Costing Income Statement For the Month Ended May 31, 2012 Sales (36,000 units)... $4,320,000 Cost of goods sold: Cost of goods manufactured... $2,505,600 1 Less inventory, May 31 (7,200 units) ,600 Cost of goods sold... 2,088,000 Gross profit... $2,232,000 Selling and administrative expenses... Income from operations... 1,425,600 $ 806,400 1 $2,073,600 + $432,000 (total variable plus fixed manufacturing cost) 2 ($2,505,600/$2,073,600) $345,600 (the ratio of total to variable manufacturing cost times the ending inventory valuation under variable costing); or $2,505,600/43,200 units manufactured = $58/unit; $58 7,200 units = $417,600. Ex (FIN MAN); Ex. 5 7 (MAN) a. PROCTER & GAMBLE COMPANY Variable Costing Income Statement (assumed) (in millions) Net sales... $ 78,938 Variable cost of products sold... 21,230 Manufacturing margin... $ 57,708 Variable marketing, administrative, and other expenses... Contribution margin... 10,000 $ 47,708 Fixed costs: Fixed manufacturing costs... $ 16,689 Fixed marketing, administrative, and other expenses 14,998 31,687 Income from operations... $ 16,021 b. If Procter & Gamble Company reduced its inventories during the period, then the cost of products sold would include fixed costs allocated to the beginning inventories. These would not be fixed costs of the current period. Thus, the total fixed costs of products sold on the absorption costing income statement would be higher, and the income from operations would be lower. 193

7 Ex (FIN MAN); Ex. 5 8 (MAN) a. 1. JADELIS INDUSTRIES INC. Absorption Costing Income Statement For the Month Ending April 30, ,000 Units 45,000 Units Manufactured Manufactured Sales... $ 4,464,000 $ 4,464,000 Cost of goods sold: Cost of goods manufactured: 36,000 units $ $ 4,032,000 45,000 units $ $ 4,950,000 Less inventory, April 30 (9,000 units $102) 990,000 Cost of goods sold... $ 4,032,000 $ 3,960,000 Gross profit... $ 432,000 $ 504,000 Selling and administrative expenses , ,200 Income from operations... $ 323,800 $ 395,800 1 Unit cost of goods manufactured: Direct materials ($2,736,000/36,000)... $ Direct labor ($648,000/36,000) Variable factory overhead cost ($288,000/36,000) 8.00 Fixed factory overhead cost ($360,000/36,000) Total unit cost $ Unit cost of goods manufactured: Direct materials... $ Direct labor Variable factory overhead cost Fixed factory overhead cost ($360,000/45,000) Total unit cost $

8 Ex (FIN MAN); Ex. 5 8 (MAN) (Concluded) 2. JADELIS INDUSTRIES INC. Variable Costing Income Statement For the Month Ending April 30, ,000 Units 45,000 Units Manufactured Manufactured Sales... $ 4,464,000 $ 4,464,000 Variable cost of goods sold: Variable cost of goods manufactured: 18,000 units $ $ 3,672,000 20,000 units $ $ 4,590,000 Less inventory, April 30 (2,000 units $51.20) 918,000 Variable cost of goods sold... $ 3,672,000 $ 3,672,000 Manufacturing margin... $ 792,000 $ 792,000 Variable selling and administrative expenses ,200 59,200 Contribution margin... $ 732,800 $ 732,800 Fixed costs: Fixed factory overhead... $ 360,000 $ 360,000 Fixed selling and administrative expenses.. 49,000 49,000 Total fixed costs... $ 409,000 $ 409,000 Income from operations... $ 323,800 $ 323,800 1 Unit variable cost of goods manufactured: Direct materials ($2,736,000/36,000)... $ Direct labor ($648,000/36,000) Variable factory overhead cost ($288,000/36,000) 8.00 Total unit variable cost... $ Variable selling and administrative expenses are constant with constant sales levels. b. If 45,000 units rather than 36,000 units are manufactured, the increase in income from operations of $72,000 ($395,800 $323,800)under absorption costing is caused by the allocation of $360,000 of fixed factory overhead cost over a larger number of units. If 36,000 units are manufactured, the fixed factory overhead cost is $10.00 per unit ($360,000/36,000) compared to $8.00 per unit ($360,000/45,000) if 45,000 units are manufactured. Thus, the cost of goods sold is $72,000 less by the amount of $2.00/unit ($10.00 $8.00) times the number of units sold, or $ ,000 units = $72,000. The $72,000 difference can also be explained by the amount of fixed factory overhead cost included in the ending inventory if 45,000 units are manufactured ($8.00 per unit 9,000 units). 195

9 Ex (FIN MAN); Ex. 5 9 (MAN) a. WHIRLPOOL CORPORATION Variable Costing Income Statement (assumed) (in millions) Sales... $ 17,099.0 Variable cost of goods sold: Beginning inventory (70% $2,591)... $ 1,813.7 Variable cost of goods manufactured... 10, Less: Ending inventory (70% $2,197)... (1,537.9) Variable cost of goods sold... 10,914.8 Manufacturing margin... $ 6,184.2 Variable selling and administrative expenses Contribution margin... $ 5,530.2 Fixed costs: Fixed manufacturing costs... $3,680.0 Fixed selling and administrative expenses ,570.0 Income from operations... $ Variable cost of goods manufactured: Cost of goods sold... $ 14,713 Plus: Ending inventory... 2,197 Less: Beginning inventory... (2,591) Cost of goods manufactured... $ 14,319 Less: Manufacturing fixed costs... Variable cost of goods manufactured... 3,680 $ 10,639 2 Variable selling and administrative expenses: Selling and administrative expenses... $ 1,544 Less: Selling and administrative fixed expenses... Variable selling and administrative expenses $

10 Ex (FIN MAN); Ex. 5 9 (MAN) (Concluded) b. The income from operations under the variable costing concept will not be the same as the income from operations under the absorption costing concept when the inventories either increase or decrease during the year. In this case, Whirlpool s inventory decreased, meaning it sold more than it produced. As a result, the income from operations under the variable costing concept will be greater than the income from operations under the absorption costing concept. The reason is because the variable costing concept will deduct the fixed costs in the period that they are incurred, regardless of changes in inventory balances. In contrast, absorption costing will match costs with sales by allocating the fixed costs to the beginning and ending inventories. When sales are less than the cost of goods manufactured (when inventories decrease), fixed costs from the beginning inventory are included in cost of goods sold under absorption costing. Thus, more fixed costs will be included in cost of goods sold than were actually incurred during the period. This will result in a lower income from operations than would be reported under the variable costing concept. The difference between the income from operations under the two concepts can be explained as follows: Fixed cost portion of Jan. 1 inventory (30% $2,591)... $777.3 Less: Fixed cost portion of Dec. 31 inventory (30% $2,197) Difference in income from operations... $118.2 Income from operations variable costing... $960.2 Income from operations absorption costing Difference... $118.2 Ex (FIN MAN); Ex (MAN) a. Management s decision and conclusion are incorrect. The profit will not be improved by $85,500 because the fixed costs used in manufacturing and selling dress shoes will not be avoided if the line is eliminated. These fixed costs total $144,000 for the dress shoe line. Thus, the actual profit will go down by $58,500 ($144,000 $85,500) if the dress shoe line is eliminated. This is shown in the variable costing income statements in (b). The absorption costing product profit reports should not be used for making this type of decision. 197

11 Ex (FIN MAN); Ex (MAN) (Concluded) b. SHOES R US, INC Variable Costing Income Statements Three Product Lines For the Year Ended December 31, 2012 Party Play Dress Shoes Shoes Shoes Revenues... $522,000 $441,000 $378,000 Variable cost of goods sold , , ,000 Manufacturing margin... $333,000 $283,500 $198,000 Variable selling and administrative expenses , , ,500 Contribution margin... $180,000 $175,500 $ 58,500 Fixed costs: Fixed manufacturing costs... $ 81,000 $ 58,500 $ 72,000 Fixed selling and administrative expenses... 63,000 54,000 72,000 $144,000 $112,500 $144,000 Income from operations... $ 36,000 $ 63,000 $ (85,500) c. If the dress shoe line were eliminated, then the contribution margin of the product line would also be eliminated. The fixed costs would not be eliminated. Thus, the profit of the company would actually decline by $58,500. Management should keep the line and attempt to improve the profitability of the product by increasing prices, increasing volume, or reducing costs. Alternatively, if the volume of the other two products were to increase, then the dress shoe line could be eliminated and replaced with volume from the other two products. Ex (FIN MAN); Ex (MAN) Noise Total Resistant Silence Headphone Headphone Unit volume increase... 29,750 33,000 Contribution margin per unit... $12.00 $16.80 Increase in profitability... $357,000 $554,400 The increase in total profitability would be $911,400 ($357,000 + $554,400). Note that the income from operations per unit figures are not used in the analysis, since the fixed costs should be excluded in determining the incremental income from operations to be earned from the incremental sales. This is because the company has sufficient capacity for the additional production. Thus, fixed costs will not be affected by the decision. 198

12 Ex (FIN MAN); Ex (MAN) a. OUTDOOR MOTOR SPORTS INC. Contribution Margin by Product 4WD 2WD Sales... $16,275,000 $ 8,125,000 Variable cost of goods sold... 9,610,000 5,250,000 Manufacturing margin... $ 6,665,000 $ 2,875,000 Variable selling and administrative expenses... 2,759,000 1,250,000 Contribution margin... $ 3,906,000 $ 1,625,000 Contribution margin ratio % 20.00% b. The 4WD line provides the largest total contribution margin and the largest contribution margin ratio. If the sales mix were shifted more toward the 4WD, the overall profitability of the company would increase. Ex (FIN MAN); Ex (MAN) a. ZEN SKATEBOARDS INC. Contribution Margin by Territory Southern Northern Sales... $ 6,250,000 $ 5,000,000 Variable cost of goods sold... 4,375,000 3,500,000 Manufacturing margin... $ 1,875,000 $ 1,500,000 Variable selling expenses... 1,250, ,500 Contribution margin... $ 625,000 $ 562,500 Contribution margin ratio % 11.25% 199

13 Ex (FIN MAN); Ex (MAN) (Concluded) b. The total contribution margin is slightly higher for Southern, while the contribution margin ratio is slightly higher for Northern. This is because Southern sells only Street Machines, which have a lower contribution margin ratio (10.0% vs %)* but a higher contribution margin per unit ($25 vs. $20). In attempting to improve the company s profitability, it is unlikely that changing the mix of products to the two territories will have much effect. Southern will sell very few Winter Warriors (due to climate), while Northern has a mixed climate. However, there appears to be a number of profit opportunities. First, the Street Machine has a manufacturing margin of $75 per unit, while the Winter Warrior is only $45 per unit. Why such a large difference? Maybe the Winter Warrior is underpriced or made in inefficient manufacturing processes. Second, the variable selling expense per unit for the Street Machines is much higher than that of the Winter Warriors ($50 vs. $25). This suggests that the variable selling expenses per unit for the Street Machine may be too high. It seems difficult to justify a more than two-to-one difference in this expense. Reducing the variable selling expense for the Street Machines by half, for example, would have a significant impact on the firm s overall profitability. * 10% = $25/$250, rounded to one decimal place 13.33% = $20/$150 Ex (FIN MAN); Ex (MAN) a. 1. LOOM INDUSTRIES INC. Contribution Margin by Salesperson Kurt W. Bart T. Jody T. Big T. Sales... $672,000 $504,000 $648,000 $741,000 Variable cost of goods sold.. 403, , , ,400 Manufacturing margin... $268,800 $302,400 $259,200 $444,600 Variable commission expense... 67,200 70,560 90,720 74,100 Contribution margin... $201,600 $231,840 $168,480 $370,500 Contribution margin ratio % 46.00% 26.00% 50.00% 200

14 Ex (FIN MAN); Ex (MAN) (Concluded) b Big T. earns the highest contribution margin and has the highest contribution margin ratio. This is because he sells the most units, has a low commission rate, and sells a product mix with a high manufacturing margin (60% of sales, $23,400/$39,000). Bart T. also sells products with a high average manufacturing margin (60% of sales, $25,200/$42,000) but at a high commission rate. This accounts for the four percentage point difference in the contribution margin ratio between Big T. and Bart T. The other two salespersons sell products with lower average manufacturing margins (40% of sales). Combining this with the high commission rate causes Jody T. to have the poorest contribution margin ratio among the four salespersons. In addition, because Jody T. has the lowest sales volume and the highest variable cost of goods sold, he also provides the lowest overall contribution margin. Again, the four percentage point difference between Jody T. and Kurt W. is due to the difference in their commission rates. LOOM INDUSTRIES, INC. Contribution Margin by Territory North South Sales... $1,176,000 $1,389,000 Variable cost of goods sold , ,200 Manufacturing margin... $571,200 $703,800 Variable commission expense , ,820 Contribution margin... $433,440 $538,980 Contribution margin ratio % 38.8% 2. The South Region has $213,000 more sales and $105,540 more contribution margin. In addition, the South Region has the largest contribution margin ratio. In the South Region, the salesperson with the highest sales unit volume also has the highest contribution margin ratio (Big T.). The South Region has the highest performance, even though it also has the salesperson with the lowest sales volume and contribution margin ratio (Jody T.). In the North Region, both salespersons are performing similarly. The North Region contribution margin is less than the South Region because of the outstanding performance of Big T. Big T. is driving the South Region s performance. 201

15 Ex (FIN MAN); Ex (MAN) a. CATERPILLAR, INC. Contribution Margin by Segment (assumed) (in millions, except ratio figures) Europe/ Infra- Building Africa/ Heavy Industrial structure Large Marine & Construction Middle Electric Con- Power Develop- Power Petroleum All Products East (EAME) Power struction Systems ment Systems Power Others Sales... $3, $ $3, $9, $2, $ 9, $ 3, $ 4, $ 11, Variable cost of goods sold.. 1, , , , , , , , Manufacturing margin... $1, $ $1, $4, $ $ 4, $ 1, $ 2, $ 5, Dealer commissions... $ $ $ $ $ $ $ $ $ 1, Variable promotion exp , Variable selling expenses... $ $ $ $1, $ $ 1, $ $ $ 2, Contribution margin... $1, $ $1, $3, $ $ 2, $ 1, $ 1, $ 3, Contribution margin ratio % 24.6% 32.1% 32.1% 26.6% 30.1% 32.4% 32.9% 31.3% b. Europe/ Infra- Building Africa/ Heavy Industrial structure Large Marine & Con- Middle Electric Con- Power Develop- Power Petro- All struction East Power struction Systems ment Systems leum Others Manufacturing margin % 46.0% 50.0% 50.0% 46.0% 46.0% 47.0% 50.0% 50.0% Commission... (9.0) (11.0) (8.0) (8.0) (10.0) (6.0) (5.0) (7.0) (9.0) Variable promotion... (10.2) (10.4) (9.9) (9.9) (9.4) (9.9) (9.6) (10.1) (9.7) Contribution margin ratio % 24.6% 32.1% 32.1% 26.6% 30.1% 32.4% 32.9% 31.3% 202

16 Ex (FIN MAN); Ex (MAN) (Concluded) c. The Building Construction Products segment has the highest contribution margin ratio. The manufacturing margin is high, while the dealer commission rate is average. The variable promotion expenses as a percent of sales is higher than average. EAME is the poorest performing segment in terms of contribution margin ratio. This is because the manufacturing margin is the lowest and dealer commissions are the highest. The high dealer commission is out of balance with the rest of the business segments. This may be the result of the high labor cost structure of Europe. The Large Power Systems are sold mostly to other manufacturers. As a result, each sale has more volume and requires less effort, so the commission rate is lower. This helps the Large Power Systems segment perform well in light of a low manufacturing margin. The Electric Power segment operates similarly to the Large Power Systems segment and exhibits similar contribution margin characteristics. 203

17 Ex (FIN MAN); Ex (MAN) a. Filmed Entertainment Networks Publishing Revenues... $11,066.0 $11,703.0 $3,736.0 Variable costs... 3, , ,689.9 Contribution margin... $ 7,524.9 $ 8,192.1 $1,046.1 Contribution margin ratio... 68% 70% 28% b. The Filmed Entertainment, and Networks segments sell an information or media product that has a very small variable cost per unit. For example, the Networks segment earns revenue monthly from each customer. However, the variable cost of each customer is rather small. The cost of providing the service is essentially fixed. The same holds true for the Filmed Entertainment segment. The variable cost per ticket sold to a motion picture is rather small. The costs of producing and promoting a new film are essentially fixed to the number of tickets sold. The studio will have enough capacity to release a set number of films per year. The costs will be incurred regardless of the number of tickets sold. The same logic holds for HBO and the cable network. Much of their costs are fixed to the number of subscribers. The Publishing segment produces and sells products that do have a variable cost per unit. The total cost of producing a magazine will increase as more units are sold. The editorial costs will likely be fixed, but the printing and distribution costs will be variable to the number of units sold. Thus, the Publishing segment will have a much lower contribution margin ratio than the other segments. c. The higher contribution margin ratios of the Filmed Entertainment and Networks segments should not be interpreted as being the most profitable. The fixed costs cannot be ignored. These segments will have high fixed costs. If the volume of business is not sufficient to exceed the break-even point, then the segments would be unprofitable. In the final analysis, the fixed costs should also be considered in determining the overall profitability of the segments. The contribution margin ratio shows how sensitive the profit will be to changes in volume. These segments increase their profitability rapidly with increases in subscription or audience volume, compared to the Publishing segment. 204

18 Ex (FIN MAN); Ex (MAN) a. BLUEBERRY, INC. Contribution Margin Analysis Sales For the Year Ended December 31, 2013 Effect of change in sales: Sales quantity factor (48,000 43,000) $ $137,500 Unit price factor ($25 $27.50) 48, ,000 Total effect of change in sales*... $17,500 *This represents the total effect that the change in sales has on Blueberry, Inc. s contribution margin. b. The sales will increase by $17,500. If the variable cost per unit were $5, and there were 5,000 more units than planned, then the variable cost will increase by $25,000 due to the variable cost quantity factor. Thus, the contribution margin will decrease by $7,500 ($17,500 $25,000) as a result of the price reduction. Ex (FIN MAN); Ex (MAN) GARDOT PRODUCTS INC. Contribution Margin Analysis Sales For the Year Ended December 31, 2012 Effect of change in sales: Sales quantity factor (27,500 28,800) $ $305,500 Unit price factor ($250 $235) 27, ,500 Total effect of change in sales*... $107,000 *This represents the total effect that change in sales has on Gardot Products, Inc. s contribution margin. 205

19 Ex (FIN MAN); Ex (MAN) GARDOT PRODUCTS INC. Contribution Margin Analysis Variable Costs For the Year Ended December 31, 2012 Effect of changes in variable costs of goods sold: Variable cost quantity factor (28,800 27,500) $ $ 158,600 Unit cost factor ($122 $132) 27, (275,000) Total effect of change in variable cost of goods sold... $(116,400) Effect of changes in variable and administrative expenses: Variable cost quantity factor (28,800 27,500) $28... $ 36,400 Unit cost factor ($28 $26) 27, ,000 Total effect of changes in selling and administrative expenses... 91,400 Decrease in contribution margin from change in variable costs... $ (25,000) 206

20 Ex (FIN MAN); Ex (MAN) a. MID-ATLANTIC RAILROAD COMPANY Contribution Margin by Route For the Month Ended May 31, 2012 Boston/ Philadelphia/ Buffalo/ Philadelphia Buffalo Boston Total Revenues... $326,648 $813,120 $729,120 $1,868,888 Variable costs: Labor costs for loading and unloading railcars... $ 27,132 $134,640 $ 75,888 $ 237,660 Fuel costs , , , ,950 Train crew labor costs ,760 89, , ,400 Switchyard labor costs... 18,620 92,400 52, ,100 Total variable costs... $361,342 $473,880 $465,888 $1,301,110 Contribution margin... $ (34,694) $339,240 $263,232 $ 567,778 Contribution margin ratio... (10.6%) 41.7% 36.1% 30.4% Revenues: Revenue per railcar Number of railcars Labor costs for loading and unloading railcars: $51.00 Number of railcars Fuel costs: $14.00 Number of train-miles Train crew labor costs: $8.00 Number of train-miles Switchyard labor costs: $35 Number of railcars b. The Boston/Philadelphia route performs significantly worse than do the other two routes. A close examination of the operating statistics indicates that this route runs very few railcars, combined with fairly high total mileage. This combination suggests that the railroad is running many short trains on the railroad. That is, the railroad s profitability is very sensitive to the size, or length, of the train in railcar terms. A short train costs nearly as much fuel and crewing costs as does a longer train. Thus, short trains will be inherently less profitable than longer trains. The other two routes have much better ratios of train-miles to railcars, indicating that their train sizes are larger. Note to Instructors: Part (b) is somewhat subtle but a worthy discussion. The cost behavior issues discussed in (b) are common in service companies. For example, large classes in a university are inherently more profitable than small classes, dense data traffic on a telecommunication system is more profitable than less traffic, full airplanes are more profitable than empty airplanes, and faster table turns in a restaurant create greater profitability than do slower turns, etc. 207

21 Ex (FIN MAN); Ex (MAN) a. MID-ATLANTIC COMPANY Contribution Margin for Boston/Philadelphia Route For the Month Ended June 30, 2012 Revenues ($ railcars)... $427,008 Labor costs for loading and unloading railcars ($ railcars)... $ 39,168 Fuel costs ($ ,345 train-miles) ,830 Train crew labor costs ($ ,345 train-miles) ,760 Switchyard labor costs ($ railcars)... 26,880 Total variable costs... $381,638 Contribution margin... $ 45,370 Contribution margin ratio % b. MID-ATLANTIC COMPANY Contribution Margin Analysis Boston/Philadelphia Route For the Month Ended June 30, 2012 Planned contribution margin... $34,694 Effect of change in sales: Sales quantity factor ( ) $ $144,904 Unit price factor ($556 $614) ,544 Total effect of change in sales ,360 Effect of changes in variable cost of goods sold: Variable cost quantity factor ( ) $86... $20,296 Unit cost factor ($86.00 $86.00) Total effect of changes in variable cost of goods sold 20,296 Actual contribution margin... $ 45,370 Note to Instructors: If Exercise was assigned, the increase in contribution margin can be reconciled. The increase in the contribution margin is reconciled from the planned contribution margin for the route from Exercise of $(34,694) to the actual contribution margin of $45,370 in part (a). 208

22 Ex (FIN MAN); Ex (MAN) a. FLY UNIVERSITY Variable Costing Income Statement For the Fall Term 2012 Revenue... $ 12,896,000 Variable costs: Registration, records, and marketing cost... $ 2,223,700 Instructional costs... 6,851,000 Total variable costs... $ 9,074,700 Contribution margin... $ 3,821,300 Depreciation on classrooms and equipment... 1,100,000 Income from operations... $ 2,721,300 Supporting Calculations Revenue: $160 80,600 credit hours Registration, records, and marketing costs: $370 6,010 students Instructional costs: $85 80,600 credit hours b. FLY UNIVERSITY Contribution Margin Analysis For the Fall Term 2012 Planned contribution margin... $ 3,725,000* Effect of change in revenue: Revenue quantity factor (80,600 57,600) $ $ 4,140,000 Unit price factor ($160 $180) 80, ,612,000 Total effect of change in sales... 2,528,000 Effect of changes in registration, records, and marketing costs: Variable cost quantity factor (5,500 6,010) $ $188,700 Unit cost factor ($370 $370) 6, Total effect of changes in registration, records, 0 and marketing costs ,700 Effect of changes in instructional costs: Variable cost quantity factor (57,600 80,600) $80.. $1,840,000 Unit cost factor ($80 $85) 80, ,000 Total effect of changes in instructional cost... 2,243,000 Actual contribution margin... $ 3,821,300 Note: There was no unit cost change for registration, records, and marketing cost. *$10,368,000 $2,035,000 $4,608,