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Demo C5-1: B/E Analysis and CVP Graphing

Given:

Chi Omega Sorority is planning its annual Riverboat Extravaganza. The Extravaganza committee has
assembled the following expected costs for the event:

Variable Costs:
Dinner (per person) $7
Favors and programs (per person) 3
Total variable costs per person $10

Fixed costs:
Band $1,500
Tickets and Advertising 700
Riverboat Rental 4,800
Floorshow and Strolling Entertainers 1,000
Total fixed costs $8,000

The committee members would like to charge $30 per person for the evening's activities.

Required:
1. Compute the break-even point for the Extravaganza (in terms of the number of persons
that must attend).

Sales = TVC + TFC + Operating Profit


$30(X) = $10(X) + $8,000 + $0
$20(X) = $8,000
X = $8,000 / $20 = 400 People

$30X = ($30)(400) = $12,000 Ticket sales

2. Assume that only 250 persons attended the Extravaganza last year. If the same number
attend this year, what price per ticket must be charged to breakeven?

Sales = TVC + TFC + Operating Profit


(X)(250) = $10(250) + $8,000 + $0
(X)(250) = $2,500 + $8,000
(250)(X) = $10,500
X = $10,500 / 250
X= $42 price per ticket

3. Refer to the original data ($30 ticket price per person). Prepare a CVP graph for the
Extravaganza from zero tickets up to 600 tickets sold.

Graph Data:

Total Total Total Total


Persons Estimated Fixed Sales Variable
Attending Cost Cost Values Cost
0 $8,000 $8,000 $0 $0
100 $9,000 $8,000 $3,000 $1,000
200 $10,000 $8,000 $6,000 $2,000
300 $11,000 $8,000 $9,000 $3,000
400 $12,000 $8,000 $12,000 $4,000
500 $13,000 $8,000 $15,000 $5,000
600 $14,000 $8,000 $18,000 $6,000

CVP Chart

$20,000

$18,000
f(x) = 30x

$16,000

$14,000
f(x) = 10x + 8000

$12,000
Cost

$10,000

$8,000
f(x) = 2.57817514245217E-15x + 8000

$6,000

$4,000

$2,000

$0
0 100 200 300 400 500
$4,000

$2,000

$0
0 100 200 300 400 500
Persons Attending
CVP Chart

Column E
Total Cost
Column F
TFC

400 500 600 700


Column E
Total Cost
Column F
TFC

400 500 600 700


Attending
CVP Chart

$20,000

$18,000
f(x) = 30x
$16,000

$14,000
f(x) = 10x + 8000
Cost

$12,000

$10,000

$8,000
f(x) = 2.57817514245217E-15x + 8000
$6,000
Column E
$4,000 Total Cost
Column F
TFC
$2,000

$0
0 100 200 300 400 500 600 700
Persons Attending
Demo C5-2: B/E Analysis; Target Profit; Margin of Safety; C/M Ratio

Given:
Pringle Company distributes a single product. The company's sales and expenses for a recent month were

Total Per Unit


Sales $600,000 $40 15,000
Variable expenses 420,000 $28 15,000
Contribution margin $180,000 $12
Fixed expenses 150,000
Net operating income $30,000

Required:
1. What is the monthly break-even point in units sold and in sales dollars?

Sales = TVC + TFC + Operating Profit


$40(X) = $28(X) + $150,000 +0
$12(X) = $150,000
X = $150,000/$12
X = 12,500 12,500 units $500,000 Sales dollars

2. Without resorting to computations, what is the total contribution margin at the break-even
point?

At the break-even point, the total contribution must be equal to total fixed costs

3. How many units would have to be sold each month to earn a target profit of $18,000?
Verify your answer by preparing a contribution format income statement at the target
level of sales.

Sales = TVC + TFC + Operating Profit


$40(X) = $28(X) + $150,000 + $18,000
$12(X) = $168,000
X = $168,000/$12
X = 14,000 14,000 units

Pringle Company
Contribution Margin Income Statement
For the Month ended _______________

Sales 14,000 $40 $560,000


Variable Expenses 28 392,000
Contribution Margin $12 $168,000 $168,000
Less: Fixed Expenses 150,000
Net Income $18,000

4. Refer to the original data. Compute the company's margin of safety in both dollar and
percentage terms.
Margin of safety = Current or budgeted sales level - breakeven.
M/S = $600,000 - ($40 X 12,500)
M/S = $600,000 - $500,000 = $100,000 2,500 units

M/S % = $100,000/$600,000 = 16.667%

5. What is the company's CM ratio?

Contribution ratio = TCM/Sales or (CM/Unit)/(Unit SP)


Contribution ratio = TCM/Sales = $168,000/$560,000 = 30.0% 30.0%
Contribution ratio = (CM/Unit)/(Unit SP) = $12/$40 = 30.0%

If monthly sales increase by $80,000 and there is no change in fixed expenses, by


how much would you expect monthly net operating income to increase?

Change in sales dollars X C/M % = Change in operating income


$80,000 X 30% = $24,000

Proof:
Change in units 2,000
CM per unit $12
Change in TCM $24,000
cent month were
Demo C5-3: Basic CVP Analysis

Given:
Stratford Company distributes a lightweight lawn chair that sells for $15 per unit. Variable costs are $6
per unit, and fixed costs $180,000 annually.
Selling price per unit $15
Variable cost per unit $6
Total fixed costs $180,000

Required: Answer the following independent questions.

1. What is the product's CM ratio?

CM% = TCM / Sales or CM per unit / Selling price = ($15 - $6) / $15 = 60%

2. Use the CM ratio to determine the BE point in sales dollars.

Sales = TVC + TFC + Operating Income


1X = VC%(X) + TFC
1(X) - VC%(X) = TFC
(1 - VC%)(X) = TFC VC% = 40%
CM%(X) = TFC
X = TFC/CM%
X =$180,000 / .60
X= $300,000

3. The company estimates that sales will increase by $45,000 during the coming year due to
increased demand. By how much should net operating income increase? $45,000

Change in sales $45,000 Change in units 3,000


CM Ratio 60% CM per unit $9
Change in OI $27,000 Change in OI $27,000

4. Assume that the operating results for last year were as follows:

Sales $360,000 24,000


Variable expenses 144,000 0.40
Contribution margin $216,000 0.60
Fixed expenses 180,000
Operating income $36,000

a. Complete the degree of operating leverage at the current level of sales.

Degree of operating leverage (DOL) = TCM / Net Operating Income


DOL = $216,000 / $36,000 = 6

b. The president expects sales to increase by 15% next year. By how much should net
operating income increase?
Proof:
% Change in Sales X DOL = % Change in OI Sales
15% X 6 = 90% Variable expenses
Contribution margin
Original operating income $36,000 Fixed expenses
% increase in OI resulting from a 15% increase in sales 90% Operating income
Dollar increase in OI resulting from a 15% increase in sales $32,400

5. Refer to the original data. Assume that the company sold 28,000 units last year. The sales
manager is convinced that a 10% reduction in the selling price, combined with a $70,000
increase in advertising expenditures, would cause annual sales in units to increase by 50%.

Prepare two contribution format income statements, one showing the results of last year's
operations and one showing what the results of operations would be if these changes were
made. Would you recommend that the company do as the sales manager suggests?

Stratford Company
Contribution Format Income Statements
Last Year and Pro-forma Based on Proposal Proof
Q5 Q5 Q6
Last Year Projected Projected
Volume 28,000 Volume 42,000 Volume 56,000
Per Unit Per Unit Per Unit
Sales $15.00 $420,000 $13.50 $567,000 $15.00 $840,000
Variable expenses $6.00 168,000 $6.00 $252,000 $8.00 $448,000
Contribution margin $9.00 $252,000 $7.50 $315,000 $7.00 $392,000
Fixed expenses 180,000 250,000 320,000
Operating income $72,000 $65,000 $72,000

No, the changes should not be made because the projected OI is lower than last year's OI.

6. Refer to the original data. Assume again that the company sold 28,000 units last year.
The president feels that it would be unwise to change the selling price. Instead, he wants
to increase the sales commission by $2 per unit. He thinks that this move, combined
with some increase in advertising, would cause annual unit sales to double. By how much
could advertising be increased with profits remaining unchanged? Do not prepare an
income statement; use the incremental analysis approach.

Long Way:
Sales = TVC + TFC + OI
Let X = increase in advertising expense
(28,000 X 2)($15) = (28,000 X 2)($6 + $2) + ($180,000 + $X) + $72,000
(56,000)($15) = (56,000)($8) + ($180,000 + $X) + $72,000
$840,000 = $448,000 +$180,000 + X + $72,000
X = $140,000

Incremental Approach:
Estimated New Total Contribution Margin (28,000 X 2 X ($9 - $2)) $392,000
Original Total Contribution Margin (28,000 X $9.00) 252,000
Increase in TCM assuming TFC remain the same $140,000

Thus, fixed costs can increase by $140,000 without a change in OI.


$414,000 $248,400
165,600
$248,400 $248,400
180,000
$68,400 $32,400
$68,400

140,000
Demo C5-4: Sales Mix; Multiproduct Break-Even Analysis
Given:
Marlin Company, a wholesale distributor, has been operating for only a few months. The company sells
three products - sinks, mirrors, and vanities. Budgeted sales by product and in total for the coming
month are shown below:
Product
Sinks Mirrors Vanities
Percentage of total sales 48% 20% 32%
Sales $240,000 100% $100,000 100% $160,000
Variable expenses 72,000 30% 80,000 80% 88,000
Contribution margin $168,000 70% $20,000 20% $72,000
Fixed expenses
Net operating income

Break-even point in sales dollars = Fixed expenses / CM ratio = $223,600 / .52 = $430,000

As shown by these data, net operating income is budgeted at $36,400 for the month, and break-even sales at
Assume that actual sales for the month total $500,000 as planned. Actual sales by product are:

Sinks $160,000 0.32


Mirrors 200,000 0.40
Vanities 140,000 0.28
Total $500,000

Required:
1. Prepare a contribution format income statement for the month based on actual sales data.

Product
Sinks Mirrors Vanities
Percentage of total sales 32% 40% 28%
Sales $160,000 100% $200,000 100% $140,000
Variable expenses 48,000 30% 160,000 80% 77,000
Contribution margin $112,000 70% $40,000 20% $63,000
Fixed expenses
Net operating income

2. Compute the break-even point in sales dollars for the month, based on your actual data.

Break-even point in sales dollars = Fixed expenses / CM ratio = $223,600 / .43 = $520,000

3. Considering the fact that the company met its $500,000 sales budget for the month, the president is shocked at
the results shown on your income statement in (1) above. Prepare a brief memo for the president explaining
why both the operating results and the break-even point in sales dollars are different from what was budgeted.

Although the company met its sales budget of $500,000 for the month, the mix of products sold changed significa
that budgeted. This change in sales mix is the reason that the budgeted NOI was not met, and that BE sales incre

As shown by the data in the table below, sales shifted away from Sinks, which provides the greatest CM per dollar
of sales, and shifted strongly toward Mirrors, which provides the least CM per dollar of sales. Consequently, altho
the company met its budgeted level of total sales, these sales provided considerably less CM than we had planned
with a resulting decrease in NOI.

The company's overall CM ratio decreased to 43%, from a planned level of 52%. With less average CM per dollar o
a greater level of sales had to be achieved to provide sufficient CM to cover fixed costs. Hence the rise in BE sale

Actual Budgeted Actual Budgeted Budgeted Actual


Product Sales Sales Mix Mix CM% CM%
Sinks $160,000 $240,000 32% 48% 70% 70%
Mirrors 200,000 $100,000 40% 20% 20% 20%
Vanities 140,000 $160,000 28% 32% 45% 45%
Total $500,000 $500,000 100% 100% 52% 43%
43%
. The company sells
al for the coming

oduct
Vanities Total
32% 100%
100% $500,000 100%
55% 240,000 48%
45% $260,000 52%
223,600 0.52
$36,400

$430,000

onth, and break-even sales at $430,000.


by product are:

oduct
Vanities Total
28% 100%
100% $500,000 100%
55% 285,000 57%
45% $215,000 43% 43%
223,600
($8,600)

$520,000

nth, the president is shocked at


o for the president explaining
erent from what was budgeted.

f products sold changed significantly from


s not met, and that BE sales increased.

rovides the greatest CM per dollar


ollar of sales. Consequently, although
rably less CM than we had planned,

With less average CM per dollar of sales,


d costs. Hence the rise in BE sales.

Actual Actual
Sales Mix CM% TCM
$500,000 32% 70% $112,000
$500,000 40% 20% $40,000
$500,000 28% 45% $63,000
TCM 43% $215,000 $215,000
TFC 223,600
NOI ($8,600)
Demo C5A-1: High-Low Method; Scattergraph Analysis; Regression

Given:
Zerbel Company, a wholesaler of large, custom-built air conditioning units for commercial buildings,
has noticed considerable fluctuation in its shipping expense from month to month, as shown below:

Total
Units Shipping
Month Shipped Expense Summary Assuming 6 units are expected to be shipped)
January 4 $2,200 1 Average Cost: $2,600
February 7 $3,100 2 High-Low $2,900
March 5 $2,600 3 Scattergraph $2,920
April 2 $1,500 4 Regression Values: $2,918
May 3 $2,200 Intercept: 1010.714286
June 6 $3,000 Slope: 317.8571429
July 8 $3,600 RSQ: 0.962220603

1. Using the high-low method, estimate the cost formula for shipping expense.

Cost formula: Y = a + bX
where Y = Total shipping costs Dependent variable
X = Units shipped Independent variable
b = Variable cost per unit
a = Fixed portion of total shipping cost

Estimate b: b = Change in Y / Change in X


Y X
High X Value $3,600 8
Low X Value $1,500 2
Difference $2,100 6

b = $2,100 / 6 = $350 per unit

Estimate a: a = Y - TVC

Y TVC TFC
High X Value $3,600 $2,800 $800
Low X Value $1,500 $700 $800

Cost formula: Y = $350X + $800

2. The president has no confidence in the high-low method and would like you to "check out' your
results using the scattergraph method.
a. Prepare a scattergraph using the data given above. Plot cost on the vertical axis and activity
on the horizontal axis. Fit a straight line to your plots.
To tal Sh ip p in g Exp en se

Total Shipping Expense Scattergraph

4000

3500
f(x) = 317.8571428571x + 1010.7142857143
To tal Sh ip p in g Exp en
Total Shipping Expense Scattergraph

4000

3500
f(x) = 317.8571428571x + 1010.7142857143
R² = 0.9622206025
3000

2500

2000

1500

1000

500

0
1 2 3 4 5 6 7 8
Units Shipped

b. Using your scattergraph, estimate the approximate variable cost per unit shipped and the approximate fixed cos
per month with the quick-and-dirty method.

Right click on trend line.


Click on format. Select options.
Forecast backwards two units,

Estimate Y intercept as $1,000.

Select plotted point (5, $2,600) which lies on the trend line.
The variable cost can be quickly estimated by subtracting the estimated fixed cost ($1,000) from the total cost at the poin
lying on the straight line.

The total variable cost = $2,600 - $1,000 = $1,600


Estimate variable cost per unit by taking TVC and dividing it by the number for the selected point (5).

Estimated variable cost per unit = $1,600 / 5 = $320. 320

Estimated cost formula = $1,000 + $320X

3. What factors, other than the number of units shipped, are likely to affect the company's shipping expense?

a. The weight and volume of the units shipped.


b. The distance shipped.
c. The speed of the shipping process -- delivery deadlines.

Appendix 2A: Least-Squares Regression

1. Using the least-squares regression method, estimate the cost formula for shipping expense.

Estimated cost formula = $1,010.71 + $317.857X (See regression output below.)


Note: the R-squared is 0.96, which means that 96% of the variation in shipping costs is explained by
knowing the number of units shipped. This is a very high R-squared and indicates a very good fit.

SUMMARY OUTPUT To find the regression function: Click on Data Tab, then click on icon in the Data Analysis s

Regression Statistics
Multiple R 0.980928439
R Square 0.962220603
Adjusted R Sq 0.954664723
Standard Error 149.0445763
Observations 7

ANOVA
df SS MS F Significance F
Regression 1 2828928.571 2828928.571 127.3472669 9.54922E-05
Residual 5 111071.4286 22214.28571
Total 6 2940000

Coefficients Standard Error t Stat P-value Lower 95% Upper 95%


Intercept 1010.714286 151.6827382 6.663344147 0.0011491192 620.8013943 1400.627177
X Variable 1 317.8571429 28.16677736 11.28482463 9.54922E-05 245.4521366 390.2621491

RESIDUAL OUTPUT

Observation Predicted Y Residuals


1 2282.142857 -82.14285714
2 3235.714286 -135.7142857
3 2600 0
4 1646.428571 -146.4285714
5 1964.285714 235.7142857
6 2917.857143 82.14285714 82.14285714
7 3553.571429 46.42857143

2. Prepare a simple table comparing the variable and fixed cost elements of shipping expense as computed under
the quick-and-dirty scattergraph method, the high-low method, and the least-squares regression method.

Fixed Cost Variable Cost


Method Element (a) per Unit (b)
High-Low $800 $350
Quick & Dirty $1,000 $320
Regression $1,010.714 $317.857
ed to be shipped)
7 8 9

he approximate fixed cost

m the total cost at the point

ipping expense?
icon in the Data Analysis section.

Lower 95.0% Upper 95.0%


620.8013943 1400.627177
245.4521366 390.2621491

e as computed under
ession method.
Demo C5A-2: Cost Behavior: High-Low Method; C/M Format Income Statement
Given:
Frankel Ltd., a British merchandising company, is the exclusive distributor of a product that
is gaining rapid market acceptance. The company's revenues and expenses (in British
pounds) for the last three months are given below.

Frankel Ltd.
Comparative Income Statements
For the Three Months Ended. June 30
April May June
Sales in units 3,000 Per Unit 3,750 Per Unit 4,500
Sales Revenue £420,000 £140 £525,000 £140 £630,000
Cost of Goods Sold 168,000 56 210,000 56 252,000
Gross Margin £252,000 £84 £315,000 £84 £378,000
Selling and Administrative Expense
Shipping Expense £44,000 £14.67 £50,000 £13.33 £56,000
Advertising Expense 70,000 23.33 70,000 18.67 70,000
Salaries and Commissions 107,000 35.67 125,000 33.33 143,000
Insurance Expense 9,000 3.00 9,000 2.40 9,000
Depreciation Expense 42,000 14.00 42,000 11.20 42,000
Total Selling and Administrative Expenses £272,000 £90.67 £296,000 £78.93 £320,000
Net Operating Income (Loss) -£20,000 -£6.67 £19,000 £5.07 £58,000

1. Identify each of the company's expenses (including cost of goods sold) as either variable,
fixed, or mixed.
(See Above)

2. Using the High-Low Method, separate each mixed expense into variable and fixed elements.
State the cost formula for each mixed expense.

Shipping Expense High Low Diff. Rate


Mixed Cost £56,000 £44,000 £12,000
Volume 4,500 3,000 1,500 £8.00 per unit
Fixed Cost £20,000 £20,000
Cost formula y = 20,000 + 8.00(X)

Salaries and Commissions High Low Diff. Rate


Mixed Cost £143,000 £107,000 £36,000
Volume 4,500 3,000 1,500 £24.00 per unit
Fixed Cost £35,000 £35,000
Cost formula y = 35,000 + 24.00(X)

3. Redo the Company's income statement at the 4,500- unit level of activity using the C/M
format.

Frankel Ltd.
Contribution Format Income Statements
For the Month Ended. June 30

Sales revenue (4,500 units X 140 per unit) £630,000


Variable expenses:
Cost of goods sold (4,500 units X 56 per unit) £252,000
Shipping Expense (4,500 units X 8 per unit) 36,000
Salaries and Commission Expense (4,500 units X 24 per unit) 108,000 396,000
Contribution Margin (4,500 units X (140 - 88) per unit) £234,000
Fixed Expenses:
Shipping Expense £20,000
Advertising Expense 70,000
Salaries and Commissions 35,000
Insurance Expense 9,000
Depreciation Expense 42,000 176,000
Net Operating Income £58,000
June
Per Unit
£140
56 V
£84

£12.44 M
15.56 F
31.78 M
2.00 F
9.33 F
£71.11 M
£12.89

d elements.
£52
£52