Chapter 5
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DO IT!
Types of Costs
Helena Company reports the following total costs at two levels of production.
Direct materials
Maintenance
Direct labor
Indirect materials
Depreciation
Utilities
Rent
Action Plan
✔ Recall that a variable
cost varies in total
directly and proportionately with each
change in activity level.
✔ Recall that a fixed cost
remains the same in
total with each change
in activity level.
✔ Recall that a mixed
cost changes in total
but not proportionately with each change
in activity level.
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10,000 Units
20,000 Units
$20,000
8,000
17,000
1,000
4,000
3,000
6,000
$40,000
10,000
34,000
2,000
4,000
5,000
6,000
Classify each cost as variable, fixed, or mixed.
Solution
Direct materials, direct labor, and indirect materials are variable costs.
Depreciation and rent are fixed costs.
Maintenance and utilities are mixed costs.
Related exercise material: BE5-1, BE5-2, E5-1, E5-2, E5-4, and
DO IT!
5-1.
DO IT!
High-Low Method
Byrnes Company accumulates the following data concerning a mixed cost, using units
produced as the activity level.
March
April
May
June
July
Units Produced
Total Cost
9,800
8,500
7,000
7,600
8,100
$14,740
13,250
11,100
12,000
12,460
Action Plan
✔ Determine the highest
and lowest levels of
activity.
✔ Compute variable cost
per unit as: Change in
total costs 4 (High 2
low activity level) 5
Variable cost per unit.
✔ Compute fixed cost as:
Total cost 2 (Variable
cost per unit 3 Units
produced) 5 Fixed cost.
(a) Compute the variable- and fixed-cost elements using the high-low method.
(b) Estimate the total cost if the company produces 6,000 units.
Solution
(a) Variable cost: ($14,740 2 $11,100) 4 (9,800 2 7,000) 5 $1.30 per unit
Fixed cost: $14,740 2 $12,740 ($1.30 3 9,800 units) 5 $2,000
or $11,100 2 $9,100 ($1.30 3 7,000) 5 $2,000
(b) Total cost to produce 6,000 units: $2,000 1 $7,800 ($1.30 3 6,000) 5 $9,800
Related exercise material: BE5-3, BE5-4, BE5-5, E5-3, E5-5, E5-6, and
DO IT!
5-2.
D-1
D-2
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DO IT!
DO IT!
Break-Even
Analysis
Lombardi Company has a unit selling price of $400, variable costs per unit of $240, and
fixed costs of $180,000. Compute the break-even point in units using (a) a mathematical
equation and (b) contribution margin per unit.
Action Plan
Solution
✔ Apply the formula:
Sales 5 Variable
costs 1 Fixed costs 1
Net income.
✔ Apply the formula:
Fixed costs 4
Contribution margin
per unit 5 Break-even
point in units.
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(a) The equation is $400Q 2 $240Q 2 $180,000 5 $0; ($400Q 2 $240Q) 5 $180,000.
The break-even point in units is 1,125. (b) The contribution margin per unit is $160
($400 2 $240). The formula therefore is $180,000 4 $160, and the break-even point in
units is 1,125.
Related exercise material: BE5-6, BE5-7, BE5-8, BE5-9, E5-8, E5-9, E5-10, E5-11, E5-12,
E5-13, and DO IT! 5-3.
DO IT!
Break-Even,
Margin of Safety,
Target Net Income
Zootsuit Inc. makes travel bags that sell for $56 each. For the coming year, management
expects fixed costs to total $320,000 and variable costs to be $42 per unit. Compute the
following: (a) break-even point in dollars using the contribution margin (CM) ratio; (b) the
margin of safety and margin of safety ratio assuming actual sales are $1,382,400; and
(c) the sales dollars required to earn net income of $410,000.
Action Plan
Solution
✔ Apply the formula for
the break-even point in
dollars.
✔ Apply the formulas for
the margin of safety in
dollars and the margin
of safety ratio.
✔ Apply the formula for
the required sales in
dollars.
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(a) Contribution margin ratio 5 [($56 2 $42) 4 $56] 5 25%
Break-even sales in dollars 5 $320,000 4 25% 5 $1,280,000
(b) Margin of safety 5 $1,382,400 2 $1,280,000 5 $102,400
Margin of safety ratio 5 $102,400 4 $1,382,400 5 7.4%
(c) Required sales in dollars 5 ($320,000 1 $410,000) 4 25% 5 $2,920,000
Related exercise material: BE5-10, BE5-11, BE5-12, E5-14, E5-15,
E5-16, and DO IT! 5-4.
Comprehensive
DO IT!
Mabo Company makes calculators that sell for $20 each. For the coming year, management expects fixed costs to total $220,000 and variable costs to be $9 per unit.
Instructions
(a) Compute break-even point in units using the mathematical equation.
(b) Compute break-even point in dollars using the contribution margin (CM) ratio.
(c) Compute the margin of safety percentage assuming actual sales are $500,000.
Action Plan
(d) Compute the sales required in dollars to earn net income of $165,000.
✔ Know the formulas.
Solution to Comprehensive
✔ Recognize that variable
costs change with sales
volume; fixed costs do
not.
✔ Avoid computational
errors.
(a) Sales 2 Variable costs 2 Fixed costs 5 Net income
$20Q 2 $9Q 2 $220,000 5 $0
$11Q 5 $220,000
Q 5 20,000 units
DO IT!
D-3
(b) Contribution margin per unit 5 Unit selling price 2 Unit variable costs
$11 5 $20 2 $9
Contribution margin ratio 5 Contribution margin per unit 4 Unit selling price
55% 5 $11 4 $20
Break-even point in dollars 5 Fixed costs 4 Contribution margin ratio
5 $220,000 4 55%
5 $400,000
(c) Margin of safety 5
5
Actual sales 2 Break-even sales
Actual sales
$500,000 2 $400,000
$500,000
5 20%
(d) Required sales 2 Variable costs 2 Fixed costs 5 Net income
$20Q 2 $9Q 2 $220,000 5 $165,000
$11Q 5 $385,000
Q 5 35,000 units
35,000 units 3 $20 5 $700,000 required sales
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DO IT!
REVIEW
DO IT! 5-1 Helena Company reports the following total costs at two levels of production.
Indirect labor
Property taxes
Direct labor
Direct materials
Depreciation
Utilities
Maintenance
5,000 Units
10,000 Units
$ 3,000
7,000
28,000
22,000
4,000
5,000
9,000
$ 6,000
7,000
56,000
44,000
4,000
7,000
11,000
Classify types of costs.
(LO 1, 3), C
Classify each cost as variable, fixed, or mixed.
DO IT! 5-2 Westerville Company accumulates the following data concerning a mixed cost,
using units produced as the activity level.
March
April
May
June
July
Units Produced
Total Cost
10,000
9,000
10,500
8,800
9,500
$18,000
16,650
18,580
16,200
17,100
Compute costs using highlow method and estimate
total cost.
(LO 3), AP
(a) Compute the variable- and fixed-cost elements using the high-low method.
(b) Estimate the total cost if the company produces 9,200 units.
DO IT! 5-3 Larissa Company has a unit selling price of $250, variable costs per unit of
$170, and fixed costs of $140,000. Compute the break-even point in units using (a) the
mathematical equation and (b) contribution margin per unit.
Compute break-even point
in units.
DO IT! 5-4 Presto Company makes radios that sell for $30 each. For the coming year,
management expects fixed costs to total $220,000 and variable costs to be $18 per unit.
Compute break-even point,
margin of safety ratio, and
sales for target net income.
(a) Compute the break-even point in dollars using the contribution margin (CM) ratio.
(b) Compute the margin of safety ratio assuming actual sales are $800,000.
(c) Compute the sales dollars required to earn net income of $140,000.
(LO 6), AP
(LO 6, 7, 8), AP