unit 7

EXERCISE 9 LO.1 (Variable costing income statement) Top Hat Sports Gear
manufactures baseball caps. The following information is available for 2008, the
company’s first year in business when it produced 150,000 caps. Revenue of $240,000
was generated by the sale of 90,000 caps. Variable Costs Fixed Costs Production Direct
material $75,000 Direct labor 50,000 Overhead 37,500 $56,250 Selling and
administrative 45,000 50,000 a. What is the variable production cost per unit? b. What is
the total contribution margin per unit? c. Prepare a variable costing income statement.

a. Direct materials$ 75,000

Direct labor 50,000
Manufacturing overhead 37,500
Total variable production cost $162,500
Divided by units produced ÷ 150,000
Variable production cost per cap $1.083
(rounded)

b.Contribution margin per unit:

Revenue $240,000
Less Variable Costs
Cost of goods sold (90,000 x $1.083) $97,470
Selling and Administrative 45,000
142,470
Contribution margin $ 97,530
Divided by units sold ÷ 90,000
Contribution margin per unit $ 1.084
(rounded)

c. Top Hat Sports

Income Statement
For 2008

Sales
$240,000
Less Variable Costs
Cost of goods sold (90,000 x $1.083) $97,470
Selling and Administrative 45,000 142,470
Contribution margin $
97,530
Less Fixed Expenses
Manufacturing Overhead $56,250
Selling and Administrative 50,000 106,250
Net Loss $
( 8,720)
EXERCISE 16 LO.3 (CVP) Reno Corp. sells a product for $180 per unit. The company’s
variable cost per unit are $30 for direct material, $25 per unit for direct labor, and $17 per
unit for overhead. Anunk anually fixed production overhead is $37,400, and fixed selling
and administrative and overhead is $25,240. a. What is the contribution margin per unit?
b. What is the contribution margin per ratio? c. What is the break-even point in units? d.
Using the contribution margin ratio, what is the break-even points in sales dollars? e. If
Reno Corp. wants to earn a pre-tax profit of $25,920, how many units must the company
sell?

a. Contribution margin per unit = Sales less variable costs

$180 – ($30 + $25 + $17) = $108
b.Contribution margin ratio= contribution margin ÷ sales
$108 ÷ $180 = 60%
c. Breakeven in units is fixed costs ÷ contribution margin per
unit
$62,640 ÷ $108 = 580 units
d. Breakeven in dollars is fixed costs ÷ contribution margin
ratio
$62,640 ÷ 0.60 = $104,400
e. To earn $25,920 in pretax profit, Reno Corp must sell:
($62,640 + $25,920) ÷ $108 = 820 units

EXERCISE 16 LO.1 & LO.2 (Relevant vs. sunk costs) Your roommate, Jackson Robards,
purchased a new portable DVD player just before this school term for $90. Shortly the
semester began, Jackson’s DVD player was crushed by an errant “flying plant” during a
party at his apartment. Returning the equipment to the retailer, Jackson was informed that
the estimated cost of repairs was $65 because the damage was not covered by the
manufacturer’s warranty. Pondering the figures, Jackson was ready to decide to make the
repairs; after all, he had recently paid $90 for the equipment. However, before making a
decision, he asked for your advice. a. Using concepts from this chapter, prepare a brief
presentation outlining factors that Jackson should consider in making his decision. b.
Continue the presentation in part (a) by discussing the options Jackson should consider in
making his decision. Start by defending a base case against which alternatives can be
compared.

a. You would explain to Jackson that the purchase cost of $90 is not
relevant to any decision he can now make regarding the DVD
player. No matter what action he takes now, the $90 is not a
recoverable cost. In deciding which action to take, Jackson
should consider only those costs that can be avoided by
taking one action rather than another. Any cost that is the
same across all decision alternatives can be ignored; such a
cost is not relevant. Ignoring qualitative factors, Jackson
 should select the alternative that minimizes total relevant
costs.

b. His logical choices are (1) repair the DVD player at an

estimated cost of $65 and (2) purchase a new DVD player.
Accordingly, the decision would logically be made by
comparing the purchase cost of a new player to the repair
cost of the broken player. However, Jackson may want to
consider differences in features between the existing DVD
player and replacement players as well. He may be willing to
pay more than $65 for a new player if it has additional
features. This would be a qualitative consideration.

EXERCISE 22 LO.4 (allocation of scarce resources) Because the employees of one of the
company’s plant are on strike, the Dallas plant is operating at peak capacity. It makes two
electronic products: MP3 players and PDAs. Presently, the company can sell as many of
each product as can be made, but making a PDA takes twice as long in production labor
time as an MP3 player. The company’s production capacity is 100,000 labor hours per
month. Data on each product follow: MP3 players PDAs Sales $72 $128 Variable costs
(60) (108) Contribution margin $12 $20 Labor hours required 1 2 Fixed costs are
$240,000 per month. a. How many each product should Dallas Digital make? Explain
your answer. b. What qualitative factors would you consider in making this product mix
decision?

a.
MP3 Players PDAs
Contribution margin $12 $20
Divide by labor time per unit ÷1 ÷2
CM per unit of labor time $12 $10

Because the company can sell as many of either product as it

can make, it should make only MP3 Players. The company
should make 100,000 MP3 Players.

b. The company should consider the need to provide a market

assortment of goods and the possibility of customer
preferences permanently changing to PDAs not made by
Dallas Digital. This is acknowledging the possible long-term
consequences of a short-term problem solution.

EXERCISE 27 LO.6 (Special order) Great Plain’s Wire Co. produces 12.5 gauge barbed
wire that is retailed through farm supply companies. Presently, the company has the
capacity to produce 100,000 tons of wire per year. It is operating at 80 percent of annual
capacity and, at this level of operations, the cost per ton of wire is as follows: Direct
material $540 Direct labor 50 Variable overhead 60 Fixed overhead 150 Total $800 The
average sales price for the output produced by the farm is $900 per ton. The State of
Texas has approached the farm to supply 200 tons of wire for the state’s prisons for $620
per ton. No production modifications would be necessary to fulfill the order from the
State of Texas. a. What costs are relevant to the decision to accept this special order? b.
What would be the dollar effect on pre-tax income if this order were accepted?

a. Only the variable production costs are relevant to this decision:

$540 + $50 + $60 = $650.

b. Incremental revenue: $620 x 200 $124,000

Incremental costs: $650 x 200 (130,000)
Incremental profit $ ( 6,000)

Profits would decrease by

$6,000 if this special order
was accepted.