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ADM 3346 Lecture Notes - Lecture 2: Profit (Accounting), Variable Cost, Operating Leverage

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greenscorpion188
21 Jan 2017
School
University of Ottawa
Department
Administration
Course
ADM 3346
Professor
Patti Proulx

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Document Summary

It is a study of the effects of change of costs and volume on income. Consider the interrelationships among the five components: level of activity (sales volume, unit selling price, variable cost per unit, fixed costs, sales mix. Target profit before tax = selling price(x) variable cost(x) fixed cost. Target pbt + fc = sp(x) vc(x) Target pbt + fc = cm(x) x= target pbt+fc. Profit after tax = profit before tax tax. Profit after tax = profit before tax (profit before tax x tax rate) Profit after tax = profit before tax (1 tax rate) Abbott cosmetics wants their profit after tax to be ,000. Profit before tax (cid:4666)pbt(cid:4667)= profit after tax (cid:4666)(cid:883) tax rate(cid:4667) The margin of safety is the excess of company"s estimate or actual sales over its breakeven point. This is expressed as either units, dollars of revenue or as a percentage. A measure of how sensitive net income is to a percentage change in sales.

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Related Questions

The Hampshire Company manufactures umbrellas that sell for$12.50 each. In 2014, the company made and sold 60,000 umbrellas.The company had fixed manufacturing costs of $216,000. It also hadfixed costs for administration of $79,525. The per-unit costs ofeach umbrella are as follows:

Direct Materials: $3.00

Direct Labor: $1.50

Variable Manufacturing Overhead: $0.40

Variable Selling Expenses: $1.10

Using the information above, perform a cost-volume-profit (CVP)analysis by completing the steps below.

1. Compute net income before tax.

2. Compute the unit contribution margin in dollars and thecontribution margin ratio for one umbrella.

3. Calculate the break-even point in units and dollars ofrevenue.

4. Calculate the margin of safety:

In units

In sales dollars

As a percentage

5. Calculate the degree of operating leverage.

6. Assume that sales will increase by 20% in 2015. Calculate thepercentage of before-tax income for this increase. Providecalculations to prove that your percentage increase is correctbased on the operating leverage calculated in step 5.

7. Compute the number of umbrellas that Hampshire is required tosell if it plans to earn $150,000 in income before taxes by usingthe target income formula. Proof your calculation.

8. A company that specializes in tours in England has offered topurchase 5,000 umbrellas at $11 each from Hampshire. The variableselling costs of these additional units will be $1.30 as opposed to$1.10 per unit. Also, this production activity will incur another$15,000 of fixed administrative costs. Should Hampshire agree tosell these additional 5,000 umbrellas to the touring business?Provide calculations to support your decision.

Requirement 1
Units Price Totals
Sales X $ $
Variable Costs X $ $
Fixed Costs $
Net Income $
Requirement 2
Contribution Margin per Unitin Dollars = Selling Price – Variable Costs
Selling Price Variable Costs Contribution Margin per Unit
Contribution Margin Ratio =Contribution Margin/Selling Price
Contribution Margin Selling Price Contribution Margin Ratio
Requirement 3
Break-Even Point = Fixed Costs/ Contribution Margin
Fixed Costs Contribution Margin Break-Even Point in Units (Rounded)
Break-Even Point in Units XSelling Price per Unit = Break-Even Point Sales
Break-Even Point in Units Selling Price per Unit Break-Even Point in Sales (Rounded)
Requirement 4A
Margin of Safety in Units =Current Unit Sales – Break-Even Point in Unit Sales
Current Unit Sales Break-Even Point in Sales Margin of Safety in Units
Requirement 4B
Margin of Safety in Dollars =Current Sales in Dollars – Break-Even Point Sales in Dollars
Current Sales in Dollars Break-Even Point in Dollars Margin of Safety in Dollars
Requirement 4C
Margin of Safety as aPercentage = Margin of Sales in Units / Current Unit Sales
Margin of Safety in Units Current Unit Sales Margin of Safety Percentage
Requirement 5
Degree of Operating Leverage =Contribution Margin / Operating Income
Contribution Margin Operating Income Operating Leverage
Requirement 6
Units $ Per Unit Totals
Sales X $ $
Variable Costs X $ $
Fixed Costs $
Net Income $
Operating Leverage Times % Increase Increase would be XX%
Prior Income $ From Part 1
Increase $ Prior Income X XX% Above
Total $
Requirement 7
Targeted Income = (Fixed Costs+ Target Income) / Contribution Margin
Fixed Costs + Target Income Divided by Contribution Margin # of Units (Rounded)
Fixed Costs $
Target Income $
Total $ $ X
# of Units Above X $ Per Unit
Proof Revenue XX,XXX X $XX.XX $
Variable Costs XX,XXX X $X.XX $
Contribution Margin $
Fixed Costs $
Net Income $
Requirement 8
Sales Mix
Current Specialty Total
Expected Sales Units X X
Revenue = Sales X Price $ $ $
Variable Costs X Units $ $ $
Contribution Margin $ $ $
Fixed Costs $ $ $
Operating Income $
Prior Net Income FromRequirement 1 $
Additional Operating Income (Operating Income Above Less Prior Income) $
Decision With Explanation
Basic information
Exhibit 1 Hallstead Jewelers
Income Statements for YearsEnded January 31 (thousands of dollars)
2003 2004 2006
Sales $9,000,000 $8,000,000 $11,000,000
Cost of goods sold 4,050,000 3,600,000 4,950,000
Gross margin $4,950,000 $4,400,000 $6,050,000
Expenses
Selling expense
Salaries 2,021,000 2,081,000 4,085,000
Commissions 450,000 400,000 550,000
Advertising 254,000 250,000 257,000
Administrative expenses 418,000 425,000 535,000
Rent 420,000 420,000 840,000
Depreciation 84,000 84,000 142,000
Miscellaneous expenses 53,000 93,000 122,000
Total expenses $3,700,000 $3,753,000 $6,531,000
Net income $1,250,000 $647,000 $(481,000)
Exhibit 2 Hallstead JewelersOperating Statistics
2003 2004 2006
Sales space (square feet) 10,000 10,000 15,000
Sales per square foot $900 $800 $733
Sales tickets 5,000 5,000 7,000
Average sales ticket $1,800 $1,600 $1,571

Assumptions:

Sales price per ticket = $1,572

Variable cost per unit = $786 (cost of goods sold of $707 +Sales commissions of $79)

Complete the table below:

Alternative #1

Per unit

Total

Per unit

Total

# of sales tickets

7000

Selling price per ticket

$1,572

$11,000,000

Variable cost per ticket

$786

$5,500,000

Contribution margin per ticket

$786

$5,500,000

Total fixed costs

5,981,000

Net income

$(481,000)

Change in net income if accept alternative

Breakeven point in units

7,610

Review of Question #4 requirements. Increase advertisingby $20,000, increase sales revenue (volume) by 2%.

For each question, answer yes or no for each piece ofinformation listed.

Information

For this alternative only, is there a change in this item thataffects calculation of net income? Yes or No

For this alternative only, is there a change in this item thateffects the calculation of the new breakeven point? Yes or No

Selling price per unit

Variable cost per unit

Total fixed costs

Net income

Sales volume

Complete the table below:

Alternative #3

Per unit

Total

Per unit

Total

# of sales tickets

7000

Selling price per ticket

$1,572

$11,000,000

Variable cost per ticket

$786

$5,500,000

Contribution margin per ticket

$786

$5,500,000

Total fixed costs

5,981,000

Net income

$(481,000)

Change in net income if accept alternative

Breakeven point in units

7,610

Alternatives

Change in Net Income

New Breakeven point in units

Change in Breakeven point in units

#1 Decrease SP, Increase sales volume

#2 Eliminate sales commissions

Increases by $550,000

6,914

Decreases by 696

#3 increase Fixed costs by $20,000 to get increase of 2% salesrevenue (volume)

Not sure how to complete this multi production CM incomestatement at breakeven. If you can be detailed inyour answers so I can understand it, that would be awesome! Thanksin advance!

Applicable to thecompany as a whole:
Net income earned during mostrecent period: $ 65,000
Contribution marginratio: 15%
Fixed costs incurred duringmost recent period: $ 175,000
Statutory tax rate: 37%
Operating income generated atbreakeven: $ -
Applicable to the FootballDivision
Selling price perfootball $ 18.00
Total variable cost dollarsincurred by Football Division $ 952,088
Quantity of footballs soldduring most recent period: 64,000
Applicable to the BaseballDivision
Variable cost perbaseball: $ 3.24
Footballs Baseballs Total
Total $ $ per Unit Sales Ratios Total $ $ per Unit Sales Ratios Total $ Sales Ratios*
Revenues $ 1,152,000 $ 18.00 62% $ 702,497 $ 3.65 38% $ 1,854,497.35 100%
Variable Costs $ 952,088 $ 14.88 60% $ 624,235 $ 3.24 40% $ 1,576,323 100%
Contribution Margin $ 199,912 $ 3.12 72% $ 78,263 $ 0.41 28% $ 278,175 100%
Fixed Costs $ 175,000
Operating income $ 103,175
Income Tax $ 38,174.60
Net income $ 65,000
Footballs Baseballs Total
Total $ $ per Unit Sales Ratios Total $ $ per Unit Sales Ratios Total $ Sales Ratios
Revenues $ 1,166,666.67
Variable Costs
Contribution Margin
Fixed Costs
Operating income
Income Tax
Net income