Ch2 Lecture W-examples

HWK 2-A1Copyright 2011 Pearson Education, Inc., Publishing as Prentice Hall.

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HWK 2-A1: PART 1

What resources are available?Labor - FixedCleaning Supplies - VariableCopyright 2011 Pearson Education, Inc., Publishing as Prentice Hall. *

HWK 2-A1: PART 2Copyright 2011 Pearson Education, Inc., Publishing as Prentice Hall. *

Copyright 2014 Pearson Education, Inc. publishing as Prentice Hall2 - *

Step- and Mixed-Cost Behavior PatternsStep cost:

A cost that changes abruptly at different intervals of activitybecause the resources and their costs come in indivisible chunks.LearningObjective 3Mixed Cost:

A cost that contains elements of both fixed- and variable-cost behavior


Step-Cost BehaviorStep cost treated as a fixed costStep cost treated as a variable cost


Cost-volume-profit (CVP)analysisLearningObjective 4Managers trying to evaluate the effects of changes in volume of goods or services produced might be interested in upward changes such as increased sales expected from increases in promotion or advertising.

AND

Managers might be interested in downward changes such as decreased sales expected due to a new competitor entering the market or due to a decline in economic conditions.


CVP Scenario Per Unit Percentage of Sales Selling price $1.50100%Variable cost of each item 1.20 80Selling price less variable cost $ .30 20%

Monthly fixed expenses: Rent $3,000 Wages for replenishing and servicing 13,500 Other fixed expenses 1,500Total fixed expenses per month $18,000

Cost-volume-profit (CVP) analysis is the study of the effects of output volume on revenue (sales), expenses (costs), and net income (net profit).


Cost-Volume-Profit Graph18,000 30,000 90,000 120,000 138,000 $150,000 0102030405060708090100Units (thousands)Dollars 60,000 Total ExpensesSalesNet Income AreaBreak-Even Point 60,000 units or $90,000Net Loss AreaACDBFixed ExpensesVariable ExpensesNet Income

SOLUTION 2-33Copyright 2011 Pearson Education, Inc., Publishing as Prentice Hall.

Cost Volume-Profit graph for case 2

Using the graph, the estimated breakeven point in total units sold is about 80,000.

The estimated net income for 100,000 units sold is $80,000 ($1,000,000 - $920,000).BE$80,000*

Chart1

00320000320000

1000000600000320000920000

Revenue

Variable Cost

Fixed Cost

Total Cost

Total Units Sold

Dollars

Sheet1

0100000

Revenue01000000

Variable Cost0600000

Fixed Cost320000320000

Total Cost320000920000

SOLUTION 2-34Copyright 2011 Pearson Education, Inc., Publishing as Prentice Hall.

Cost Volume-Profit graph for case 4

Using the graph, the estimated breakeven point in total units sold is about 60,000 (actual breakeven volume is 58,800).

The estimated net loss for 50,000 units sold is $88,000 (revenue of $1,500,000 total cost of $1,588,000 or CM of $500,000 less fixed cost of $588,000).BE$88,000*

Chart1

00688000688000

300000020000006880002688000

Revenue

Variable Cost

Fixed Cost

Total Cost

Total Units Sold

Dollars

Sheet1

0100000

Revenue03000000

Variable Cost02000000

Fixed Cost688000688000

Total Cost6880002688000


Break-Even PointThe break-even point is the level of sales at which revenue equals expenses and net income is zero. Sales - Variable expenses- Fixed expensesZero net income (break-even point)

LearningObjective 5


Contribution Margin Method$18,000 fixed costs $.30 = 60,000 units (break even)Contribution marginPer UnitSelling price$1.50 Variable costs 1.20 Contribution margin$ .30 Contribution margin ratioPer Unit %Selling price 100 Variable costs 80 Contribution margin 20


Contribution Margin Method$18,000 fixed costs 20% (contribution-margin percentage)= $90,000 of sales to break even60,000 units $1.50 (Sales Price) = $90,000in sales to break even


Equation Method Variable FixedSales Expenses Expenses = net income$1.50N $1.20N $18,000 = 0$.30N = $18,000N = $18,000 $.30N = 60,000 UnitsLet N = number of unitsto be sold to break even.


Equation MethodS .80S $18,000 = 0.20S = $18,000S = $18,000 .20S = $90,000Let S = sales in dollarsneeded to break even.Shortcut formulas:Break-even = fixed expenses = $18,000 = 60,000volume in units unit contribution margin .30

Break-even = fixed expenses = $18,000 = $90,000volume in sales contribution margin ratio .2

CHAPTER 2Objectives 5. Calculate break-even sales volume in total dollars & total units

Possible Question:Abbott Company sells desks at $480 per desk. The variable costs are $372 per desk. Total fixed costs for the period are $456,840. The break-even volume in dollars is ________.

Copyright 2011 Pearson Education, Inc., Publishing as Prentice Hall.

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Target Net ProfitManagers use CVP analysis to determine the total sales, in units and dollars, needed to reach a target net profit.Target sales variable expenses fixed expenses target net income$1,440 per month is the minimumacceptable net income.LearningObjective 6


Target sales volume in units =(Fixed expenses + Target net income) Contribution margin per unit($18,000 + $1,440) $.30 = 64,800 unitsTarget Net ProfitSelling price $1.50 Variable costs 1.20 Contribution margin per unit $ .30 Target sales dollars = sales price X sales volume in unitsTarget sales dollars = $1.50 X 64,800 units = $97,200.


Sales volume in dollars = 18,000 + $1,440 = $97,200 .20Target Net ProfitTarget sales volume in dollars =Fixed expenses + target net incomecontribution margin ratioContribution margin ratioPer Unit %Selling price100 Variable costs 80 Contribution margin 20


Nonprofit ApplicationSuppose a city has a $100,000lump-sum budget appropriationto conduct a counseling program.Variable costs per prescriptionare $400 per patient per day.Fixed costs are $60,000 in therelevant range of 50 to 150 patients.


If the city spends the entire budgetappropriation, how many patientscan it serve in a year? Variable + FixedSales = expenses + expenses$100,000 = $400N + $60,000$400N = $100,000 $60,000N = $40,000 $400N = 100 patientsNonprofit Application


Nonprofit ApplicationIf the city cuts the total budget appropriation by 10%, how many patients can it serve in a year? Variable + FixedSales = expenses + expenses$90,000 = $400N + $60,000$400N = $90,000 $60,000N = $30,000 $400N = 75 patientsBudget after 10% Cut$100,000 X (1 - .1) = $90,000


Operating LeverageMargin of safety = planned unit sales break-even sales. How far can sales fall below the planned level before losses occur?Low leveraged firms have lower fixed costs and higher variable costs. Changes in sales volume will have a smaller effect on net income.


Operating LeverageOperating leverage: a firms ratio of fixed costs to variable costs. Highly leveraged firms have high fixed costs and low variable costs. A small change in sales volume = a large change in net income.

PROBLEM 2-42 16TH ED2- 38 Motel 6 pioneered the economy-lodging brand in 1962. It now has 91,000 rooms in 1,000 locations (average is 91 rooms) in the United States and Canada. Suppose a particular Motel 6 has annual fixed costs of $1.2 million for its 100-room motel, average daily room rents of $ 50, and average variable costs of $10 for each room rented. It operates 365 days per year. 1. How much revenue on rooms will Motel 6 generate ( a) if the motel is completely full through-out the entire year and ( b) if the motel is half full? 2. Compute the break- even point in number of rooms rented. What percentage occupancy for the year is needed to break even?Copyright 2011 Pearson Education, Inc., Publishing as Prentice Hall.

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PROBLEM 2-38 CONTINUEDWhat we knowFixed Cost = $1,200,000Capacity = 100 roomsPrice of Room = $50Variable Costs = $10/room rentedOperation = 365 daysProfit = Revenue Cost


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SOLUTION 2-38 1A1. How much revenue on rooms will Motel 6 generate ( a) if the motel is completely full through-out the entire year

Full through-out the entire year = 100 rooms rented x 365 days = 36,500 rooms rentedRevenue = Price x UnitsRevenue = 36,500 rooms rented x $50 per room rented = $1,825,000


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SOLUTION 2-38 1B1. How much revenue on rooms will Motel 6 generate ( a) if the motel is half full through-out the entire year

Half full through-out the entire year = 50 rooms rented x 365 days = 18,250 rooms rentedRevenue = Price x UnitsRevenue = 18,250 rooms rented x $50 per room rented = $ 912,500Shortcut: $1,825,000 x50%


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SOLUTION 2-38 22. Compute the break- even point in number of rooms rented. What percentage occupancy for the year is needed to break even?Profit = Revenue Cost*Profit = zero for break even 0= Revenue Cost = (Price x Units sold) (Fixed cost + Variable costs)=($50 x ##) - ($1,200,000 + $10 x ## )=$50 x ## - $1,200,000 - $10 x ## = ##($50-$10) - $1,200,000 $1,200,000 = ##($40) 30,000 = ## rooms rentedAns. 30,000 rooms rented


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SOLUTION 2-38 2 CONTINUED2. Compute the break- even point in number of rooms rented. What percentage occupancy for the year is needed to break even?

% Occupancy for year = Used / Total Capacity = 30,000 rooms rented / 36,500 rooms rented = 82.2%

*For the A: Is this a good number? Explain.Copyright 2011 Pearson Education, Inc., Publishing as Prentice Hall.

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Contribution Marginand Gross MarginLearningObjective 7


Contribution Marginand Gross Margin

Sales price Cost of goods sold = Gross margin

Sales price - all variable expenses =Contribution margin Per UnitSelling price$1.50Variable costs (acquisition cost) 1.20Contribution margin and gross margin are equal$ .30


Contribution Margin and Gross Margin Contribution Gross Margin Margin Per Unit Per Unit Sales$1.50 $1.50 Acquisition cost of unit sold 1.20 1.20 Variable commission .12Total variable expense $1.32Contribution margin .18 Gross margin $.30

Suppose the firm paid a commission of $.12 per unit sold.

HWK 2-32Copyright 2011 Pearson Education, Inc., Publishing as Prentice Hall. *


Appendix 2ASales Mix Analysis

Sales mix is the relative proportions orcombinations of quantities of products that comprise total sales.

If the proportions of the mix change, the cost-volume-profit relationships also change.

LearningObjective 8


Sales Mix AnalysisRamos Company ExampleSales in units 300,000 75,000 375,000Sales @ $8 and $5$2,400,000$375,000$2,775,000Variable expenses @ $7 and $3 2,100,000 225,000 2,325,000 Contribution margins @ $1 and $2$ 300,000$150,000$ 450,000Fixed expenses 180,000 Net income$ 270,000 Wallets(W)Key Cases(K)Total


Sales Mix AnalysisBreak-even point for a constant sales mix of 4 units of W for every unit of K.sales variable fixed = zero net income expense expenses

[$8(4K) + $5(K)] [$7(4K) + $3(K)] $180,000 = 0 32K + 5K - 28K - 3K - 180,000 = 0

6K = 180,000 K = 30,000W = 4K = 120,000 30,000K + 120,000W = 150,000 total units (K + W).Let K = number of units of K to break even, and 4K = number of units of W to break even.


Sales Mix AnalysisIf the company sells only key cases:break-even point = fixed expenses contribution margin per unit = $180,000 $2 = 90,000 key cases If the company sells only wallets:break-even point = fixed expenses contribution margin per unit = $180,000 $1 = 180,000 wallets


Sales Mix AnalysisSuppose total sales were equal to the budget of 375,000 units.However, Ramos sold only 50,000 key casesAnd 325,000 wallets.What is net income?


Sales Mix AnalysisRamos Company ExampleSales in units 325,000 50,000 375,000 Sales @ $8 and $5$ 2,600,000 $250,000 $2,850,000 Variable expenses @ $7 and $3 2,275,000 150,000 2,425,000 Contribution margins @ $1 and $2 $ 325,000 $100,000 $ 425,000 Fixed expenses 180,000 Net income $ 245,000 Wallets(W)Key Cases(K)Total


Impact of Income TaxesSuppose that a company earns $1,440 before Taxes and pays income tax at a rate of 40%.LearningObjective 9

Income taxes do not affect the break-even point. There is no income tax at a level of zero income.

Income taxes affect the calculation of the volume required to achieve a specified after-tax target profit.


Impact of Income TaxesTarget income before taxes = Target after-tax net income 1 tax rateTarget income before taxes = $ 864 = $1,440 1 0.40 Suppose the target net income after taxes was $864


Impact of Income TaxesTarget sales - Variable expenses - Fixed expenses= Target after-tax net income (1 tax rate)$1.50N - $1.20N - $18,000 = $864 (1 0.40)$.30N = $18,000 + ($864/.6)$.18N = $10,800 + $864 = $11,664 N = $11,664/$.18 N = 64,800 units


Impact of Income TaxesSuppose target net income after taxes was $1,440$1.50N - $1.20N - $18,000 = $1,440 (1 0.40)$.30N = $18,000 + ($1,440/.6)$.18N = $10,800 + $1,440 = $12,240 N = $12,240/$.18 N = 68,000 units


All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the publisher. Printed in the United States of America.

1-1*1-1*1-1Copyright 2003 Prentice Hall Publishing*1-1Copyright 2003 Prentice Hall Publishing*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1Called Apex because other formulas are just complications of this formula*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1Revenue was changed form net income as it is stated in the book because solutiona manual lists revenue as the answer. *1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1Revenue was changed form net income as it is stated in the book because solutiona manual lists revenue as the answer. *1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1*1-1

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