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Chapter 21: Q36PGB (page 1178)

Question: Using variable costing, service company

Divine Pool Cleaning Service provides pool cleaning services to residential customers. The company has three employees, each assigned to specific customers. The company considers each employee鈥檚 territory as a business segment. The company incurs variable costs that include the employees鈥� wages, pool chemicals, and gas for the service vans. Fixed costs include depreciation on the service vans. Following is the income statement for the month of August:

Requirements

1. Calculate the contribution margin ratio for each business segment.

2. The business segments had the following number of customers: Byson, 80; Moore, 50; and Freeman, 110. Compute the service revenue per customer, variable cost per customer, and contribution margin per customer for each business segment.

3. Which business segment was most profitable? List some possible reasons why this segment was most profitable. How might the various reasons affect the company in the long term?

Short Answer

Expert verified

Answer

  1. The contribution margin ratio of the Byson, Moore and Freemansegmentsis 70%, 70% and 30% respectively.

Particulars

Byson (80)

Moore (50)

Freeman (110)

Service revenue per customer

$110

$110

$110

Variable cost per customer

$66

$33

$77

Contribution Margin

$44

$77

$33

  1. Moore is more profitable organization as it has high contribution because of low profit.

Step by step solution

01

Calculation of contribution margin ratio

Particulars

Byson

Moore

Freeman

Service revenue (a)

$8,800

$5,500

$12,100

Contribution Margin (b)

$3,520

$3,850

$3,630

Contribution margin ratio (b/a)

40%

70%

30%

02

Calculation of average service revenue per customer, average variable cost per customer and, average contribution margin per customer.

Particulars

Byson (80)

Moore (50)

Freeman (110)

Service revenue per customer

$8,800/80

=$110

$5,500/50 =$110

$12,100/110 =$110

Variable cost per customer

$5,280/80 =$66

$1,650/50 =$33

$8,470/110 =$77

Contribution Margin

$3,520/80 =$44

$3,850/50 =$77

$3,630/110 =$33

03

Profitability Analysis

Moore is the most profitable segment because the contribution margin per customer is the highest. The reason behind the highest contribution margin is the less variable cost per customer.

The less variable cost will benefit the company in long-run by resulting higher operating profits.Variable cost plays a vital role in operating profit because fixed cost is a sunk cost which does not impact operating profit.

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Most popular questions from this chapter

Using variable costing, service company Refer to Exercise E21-25. The commercial business segment provided services to 200 customers. The residential business segment provided services to 400 customers. Determine the average amount Sherman Company charged each type of customer for services, the average variable cost per customer, and the average contribution margin per customer, rounded to two decimal places. What caused the difference in contribution margin in the two segments?

Preparing variable and absorption costing income statements Linda鈥檚 Foods produces frozen meals that it sells for \(7 each. The company computes a new monthly fixed manufacturing overhead allocation rate based on the planned number of meals to be produced that month. Assume all costs and production levels are exactly as planned. The following data are from Linda鈥檚 Foods鈥檚 first month in business:

January 2018

Units produced and sold:

Sales 1,000 meals

Production 1,200 meals

Variable manufacturing cost per meal \) 3

Sales commission cost per meal 1

Total fixed manufacturing overhead 660

Total fixed selling and administrative costs 500

Requirements:

  1. Compute the product cost per meal produced under absorption costing and under variable costing.
  2. Prepare income statements for January 2018 using: a. absorption costing. b. variable costing.
  3. Is operating income higher under absorption costing or variable costing in January?

Explain why the fixed manufacturing overhead cost per unit changes when there is a change in the number of units produced.

Using variable and absorption costing, making decisions

The 2018 data that follow pertain to Mike鈥檚 Magnificent Eyewear, a manufacturer of swimming goggles. (Mike鈥檚 Magnificent Eyewear had no beginning Finished Goods Inventory in January 2018.)

Number of goggles produced 245,000

Number of goggles sold 230,000

Sales price per unit \( 28

Variable manufacturing cost per unit 10

Sales commission cost per unit 2

Fixed manufacturing overhead 1,960,000

Fixed selling and administrative costs 260,000

Requirements:

  1. Prepare both conventional (absorption costing) and contribution margin (variable costing) income statements for Mike鈥檚 Magnificent Eyewear for the year ended December 31, 2018.
  2. Which statement shows the higher operating income? Why?
  3. Mike鈥檚 Magnificent Eyewear鈥檚 marketing vice president believes a new sales promotion that costs \)40,000 would increase sales to 235,000 goggles. Should the company go ahead with the promotion? Give your reasoning.

What is absorption costing?
See all solutions

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