Assignment Group 4
Assignment Group 4
Assignment Group 4
GROUP 4
assignment
GROUP MEMBERS
Required:
1. Use the information in tables III and IV to prepare a
contribution margin or cost -volume-profit income statement.
Compute the contribution margin ratios for each semester.
Then compute an overall simple average of the semesters.
What observations can you make about the contribution
margin over time?
Solution.
To use the information in table iii and iv to prepare a contribution
margin or cost-volume-profit income statement.
Description Fall Spring Fall Spring Fall Spring Fall Computation of Contribution Margin for
2009 2010 2010 2011 2011 2012 2012
each semester is as follows: -
Solution.
CMR = SP - VC X 100%
$ $ $ $ $ $ $
SP
Sales 3,136.4 3,250.9 3,292. 2,122.6 2,582.6 2,094.95 2,099. Fall 2009
8 7 65 3 8 73
Less; V.C CMR = 1,262.19 X 100% = 40.2%
COGS 1,262.2 1,760.4 1,705. 1,796.4 1,370.1 1,285.60 1,275.
3,136.48
9 3 32 3 9 4 Spring 2010
Contribution 1,262.1 1,490.5 1,587. 326.20 1,212,4 809.35 824.33 CMR = 1,490.54 X 100% = 45.8%
Margin 9 4 33 8
3,250.97
Fall 2010
CMR = 1,587.33 X 100% = 48.2%
Contribution 40.2% 45.8% 48.2% 15.4% 46.9% 38.6% 39.3%
Marginal Ratio 3,292.65
COMPUTATION…….. CONT ...…..
Spring 2011
CMR = 326.20 X 100% = 15.4%
2,122.63
Fall 2011
CMR = 1,212.48 X 100% = 46.9%
2,582.67
Spring 2012
CMR = 809.35 X 100% = 38.6%
2,094.95
Fall 2012
CMR = 824.33 X 100% = 39.3%
2,099.73
• The computation of an overall simple average of the semester are as
follows: -
Solution.
Simple Average of CMR = 40.2%+45.8%+48.2%+15.4%
+46.9%+38.6%+39.3%
7
= 274.4%
7
Average CMR = 39.2%
• Observations made: -
The following are observation made about the Contribution Margin over time:-
First there was a percentage increase of Contribution margin from 2009, fall
spring semester over spring 2010 semester and fall 2010 semester and fall
2010 semester through from spring 2011 semester up to fall 2012 semester
which made a total of four semester contribution was not stable, it fluctuated.
This is due to the fact that in spring 2011, the college signed an agreement
with an internationally known coffee company and opened a store and coffee
shop that have snack shop and introduced and accepted food funds cash and
credit card; also variable cost tends to decrease from that period since the
credit cards and food fund tends to increase customers.
2. Using average data computed in 1, compute the break even in sales
dollars for the snack shop, before accepting food funds.
Solution.
BEP Sales = TFC
CMR
= (250 + 750)
39.2
= 1000
39.2
= 2,551.02
3. Compare the contribution margin ratios computed in 1 and 2 above to the
gross profit percentage by product group in table 1. what factors could
contribute to the differences between these measures? which give the most
accurate measure of break-even? what actions can the snack shop take to
increase overall contribution margin ratio?
Solution:
The comparison of the contribution margin ratios computed in 1 and 2 above is
as follows: -
i. The contribution margin ratio in 1 and 2 included all product total sales and variable
costs before separation and without considering the percentage distributions of each
product and direct costs incurred in producing one product against the other, while
contribution margin ratio in table one has separation of average ratio of each product
therefore it indicated the percentage contribution or productions of each product
against sales in separations therefore it is a single unit percentage contribution margin
ratio.
ii. The contribution margin ratio of table one shows the effects of variable and sales of
each product more open while the contribution margin ration computed in one and two
is not more specific to each product.
iii. The contribution margin ratio of table one is better for managerial decision making on
what product to produce more and what percentage rather than computations one and
two.
iv. The contribution margin ratio in table one makes it easy to determine break-even point
in unit of each product rather than computed in one and two.
• The most accurate measure of break-even: -
Solution:
Pro forma contribution margin income statement (Spring 2013)
Sales (50 transactions* 2 purchase cost*60 days) $ 6,000
Variable costs -Cost of sales (Assume all variable cost)
$(3600)
- Transaction cost (50 transaction* $0.1*60days) $(300)
-Sales (50*60days*8%) $(240)
Contribution margin $1,860
5. Using the contribution margin from 4, compute the break-even point in sales dollars for
the snack shop after accepting FoodFunds. how many more sales dollars must be generated
to break even after accepting FoodFunds? is this volume attainable by the shop? what must
the shop do to achieve and then accommodate the increase in sales?
Solution:
Break-even point in sales
BEP in sales =Total Fixed cost / Contribution margin ration
Contribution margin ratio = Contribution margin/sales = $1,860/$6000 = 31%
Total fixed cost = $750+ $250 + ($30*6) = $1,180
BEP in sales = $1,180/31% = $3,806.45
The sales dollars that must be generated to break even after accepting FoodFunds
The store has to sales $ 1,229.13 more in order to arrive at Break-even point i.e. ($ 3,806.45-2,577.32)
The shop must do the following so as to achieve and then accommodate the increase in
sales
The shop can attract more customer to achieve new breakeven point by increase its promotion
strategies like coupons, gifts, advertisements, reducing selling price to attract more customers.
6. A more precise breakeven point can be calculated if the sales mix is factored
in rather than the average contribution margin. using the sales mix data shown
in table 1, compute the breakeven point in sales dollars for the snack shop
before and after accepting FoodFunds.
Solution:
Break-even point in sales dollars before accepting FoodFunds
Solution:
Breakeven point in dollars differ when considering the weighted average contribution margin for
the sales mix than when the average contribution margin (without considering the sales mix)
due to the following reasons: -
Weighted-average contribution margin ratio reflects the contribution margin ratios of the more than one
products weighted according to the relative percentage of total sales. Weighted average contribution margin
ratio is used when a company is dealing with multiple products.
Breakeven point in dollars calculated using weighted average contribution margin change when the sales mix
change that is for any given total quantity of units sold, as the sales mix shifts toward units with lower
contribution margins. Breakeven point in dollars calculated without considering sales mix will not change
relative to change in sales mix.
BEP in dollars = Total fixed cost/ Weighted Average contribution margin ratio
8. Should the shop consider dropping any of its product line? how can a
change in coffee vendor impact futures sales mix and profit?
‘’YES” the shop should consider dropping of snack and candy’s products
since the average selling price is ‘’low’’ this means the effect of its
variable cost might be higher leading to LOW percentage of gross profit
as shown on Table 1
The increase in change in demand of coffee vendor might lead to the
decrease in percentage profit of the substitute in sales mix in either tea
or beverage product, at the same time this might also lead to the
decrease in change in demand of coffee vendor leading to the increase
in percentage profit of the substitute in sales mix in either tea or
beverage product.
This might also lead to the increase of variable cost of substitute if fixed
cost remain constant
9. How can the shop reduce spoilage, waste, theft and other shrinkage
of inventory? how can they control unrecorded sales?
Solution:
Ways to reduce spoilage, waste, theft and other shrinkage of inventory
The store can reduce inventory shrinkage in number of ways including: -
Rotation of jobs so as an employee may not be too familiar with controls and hence
override them.
Daily stock taking to compare figures as per books and physically available inventory
to avoid fraudulent stock report
Provision of training to employee will avoid spoilage and waste of inventory
The use of First in, first out (FIFO) inventory method will reduce waste of inventory by
making sure the first inventory to be bought are the first one to be sold
The store may opt to install camera to check staff movements.
Inspection of inventories once they arrive.
Segregation of duties that is the person responsible for inventory handling should not
be the one processing or recording receipts.
Inventory should be kept in secure area.
• Unrecorded sales can be controlled by the store by doing the following: -
The summary of lesson learnt from Choo & Tan 2011 and an article by machuga2012
According to Suzan Machuga- article base on case- method approach of teaching Cost- Volume-
Profit CVP analysis enable the student to understand and make assumption on: -
Cost in a dynamic and interactive way
Research a variety of marketing issues for the purpose business that stimulate a real business
Suzan Machuga made an attention on the following two concepts: -
Break even analysis
The effect of changing working assumptions on final results
Relationship between fixed cost, variable cost, sales and profit
The article gave an attention on the treatment of different variable such as: sales price, direct
materials quality, total fixed cost, depreciation lives, and sales mix on how they can affect the
break-even point of the variable.
But according to Freddie Choo: San Francisco state university & Kim B Tan of California state of
university Stanislaus) Case of an income statement teaching approach for cost- volume- profit
……cont……
The author base on the typical teaching approach for CVP
analysis (i.e Garrison et al 2010), Horngren et.al, 2009
The article base on how to solve various equations relating to
CVP analysis into its variable costing income statement format
and use the income statement as a CVP model of the company.
DEVELOPING CVP MODEL
Therefore, according to our group 4, we believe both (Sus an Machuga of university of Hartford and
Freddie Choo and Kim B. Tan) described that the best way of understanding CVP analysis and
scholar or business have to use the approach to stimulate a real life business startup analysis in
future start by the impact the knowledge of solving various CVP equation and understand variable
cost and their effect on determining break-even point.
Sample equation given in text books regarding to cost- volume- profit (CVP) analysis
From: Freddie Choo & Kim B Tan (2011) & Garrison et al (2010) and horngren et al (2007)
Profit = Unit CM x A- Fixed Costs
Profit = cm ratio x sales- fixed cost
Unit Sales to Attain Target Profit= Target Profit + Fixed Cost
Unit CM
Dollar Sales to attain target profit = Target profit + Fixed Costs
CM Ratio
……CONT……
Unit Sales to Break Even= Fixed Cost
Unit CM
(Unit SP x A) – (Unit VC x A) – Fixed Cost = Income
Target Income= Target net income
1-Tax rate
Unit Sales = Fixed Cost + Target Income /1- Tax rate
Unit CM
A = Unit Sales
CM= Contribution Margin
CM Ratio= CM%= CM/ Sales
Format
CVP Income Statement
Solution:
As we know, CVP analysis is the systematic examination of inter relationship between selling
price, sales and production volume, cost expenses and profit.
According to ( Hongren, sundem & Stratton: 12 th edition) described that manager often classify
costs as fixed or variable when making decisions that affect the volume of output.
Therefore, CVP analysis is a common tool providing management with useful information for
decision making by specify the relationship between the volume of output, cost and revenue.
The managers in a service industry benefit from a study and practice of CVP relationship since
there is no organization which has unlimited resources and knowledge of how costs fluctuate as
volume changes therefore CVP analysis also helps managers to understand how to control cost.
Secondly CVP analysis will also be employed by service industry managers on making a vital and
reasonable decision when a service industry is facing managerial problems which have costs
volume and profit implication.
Thirdly, according to (I.M Pandey :3 rd edition of management accounting has explained that CVP
analysis enable or help the finance executive to present facts and figures in accurate report and
intelligible chart to management for action. Therefore, there is a framework for using the CVP
analysis for managerial purpose.
cont
Fourth, managers in a service industry use CVP analysis to acquire or understand
sales volume needed to cover cost and break even in this cvp break sales volume is
obtained as follows:
Break Sales Volume= FC
CM
Where by: -
FC= Fixed Cost
CM = Contribution Margin
To use the above formula to find a company’s target sales volume simply add a
target profit amount per unit to the fixed cost component of the formula. This allows
to solve for the target volume based on the assumption model.
Fifth, CVP analysis also enable the manager to understand and manage the
contribution margin and its ratio of the service or product rendered. the contribution
margin is the difference between total sales and total variable cost, for the business
to be profitable, the contribution margin must exceed total fixed cost
…Cont..
Lastly, CVP analysis model enable the manager focus more on
painting an economic picture of a company so that the stakeholders
and shareholders such as banks, investors and customers can
determine how the company is financially healthy.
Conclusion
When managers use CVP analysis to make business decisions, usually
they resort to some simplifying assumption such as classifying cost
as either variable or fixed i.e administrative cost and overhead costs.
The selling price per unit is constant, changes in activity are the only
factors that affect costs and all units produced are sold. Therefore,
CVP analysis pays a vital importance to a typical manager in a
service industry.
ii. Differentiate between cost-volume- product analysis under
condition of certainty and uncertainty
Solution:
Cost-Volume- Product is managerial tools which analyses the Analysis effect of changes on cost revenue,
volume of output to operating profit .it is also widely used as a means for enabling management to decides
and make decision to various business aspects such as whether to buy or make, to continue or discontinue
towards particular products, to increase production of some product and introduce new lines.
However, the Condition of Uncertainty in CVP analysis came up or introduce by ‘Bierman and
Jaedicke and Robickeck’ where the assumption was that sales volume followed a normal
distribution,
But Bierman retained the assumption that the price and variables expenses were constant.
Though, recently correlations between product demand in a multiproduct situation is
assuming prices and expenses are constant.
Also according to ‘Colin M. Drury’ CVP analysis under Uncertainty condition, the manager should
be required to buy a perfect and imperfect information towards making some relevant decision
about outcomes such as effects of change in Costs, Volume and Prices on Profit and use this
information in Improving the profit plan of the entity.
Therefore, CVP analysis under Uncertainty situation the Managers might use any of the following
criterion to make best decision: -
Maximin Criterion
Maximax Criterion
Regret Criterion
iii. Enlighten on how can one conduct sensitivity analysis by using CVP
analysis, what is the relevance in managerial decision making?
Solution:
Sensitivity analysis
It is an analysis which show the relationship between CVP model variables and profit. For example, change
in fixed costs, variable costs, sales price or sales mix.
Therefore, one can conduct sensitivity analysis by using CVP analysis by considering the assumptions of
CVP which are: -
First, the behavior of total costs and revenue is linear
This means that the behavior of revenue and total cost is assumed to be linear over the relevant range of
activities. Managers must be careful to remember that the calculations done with a context of given CVP
model can not be interpreted safely outside of the range of output for that particular model.
Secondly, selling price is constant
The selling prices are constant, also if the business produces and sells multiple products, sales mix is also
assumed to be constant.
Thirdly, all costs can be divided to their fixed and variable elements.
This means in a real business environment; cost may behave differently. Users of CVP analysis need to be
able to identify variable cost from fixed cost.
Fourth, total variable cost is proportional to volume.
This means that, once the cost of production increases, output also increases.
Example
Solution
Product mix or assortment is the set of product offered by a seller distributors or producers to
a particular buyer where by the optimal of it helps the management to solve major problems
of profit maximization.
This is the fact that the product mix adjustments guide managers to reduce the volume of
some products so as to maximize revenue by producing the products of high profitability
These problems are such that:-
Resource allocation
Optimal portfolio selection in service sector
Market demand satisfaction
However to solve some of the problems, the optimization techniques such as linear
programming is applied though LP method is commonly being applied to many problems.
Linear programming is a model consist of a linear relationship to represent a firm decision to
a given objective and resources constrains.
Usually linear programming is used as uni- objective constrained optimization technique by
managers for problems optimization (this is according to cooper 1956) it seek single objective
of either minimizing or maximizing unknown variables and linear programming. It has been
employed by many researchers to determine the product mix.
….CONT….
Therefore the importance of linear programming is as follows:-
It has been used to determine product mix composition for profit maximization
solution.
To solve optimization problems in manufacturing service industries, education,
banking, forestry
To prepare production plan for a period of 12 months or a year.
To give the best decisions to managers selections.
To determine the quantity or the amount to produce that can maximize profit
Conclusion:
Therefore the linear programing model (LP) play a vital role in identifying the
product that the firm or industry should product mostly, their production quantities
and resource level required for all resources most especially for multi production
industry, this includes (raw materials, machine capacity, human capacity and
demand limitation)