Accounting Principles and breakeven analysis at Magic Manufacturing

Published:

Accounting Principles 10th Edition for International Students.

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E5-1 Mr. Lucas has prepared the following list of statements about service companies and

Merchandisers.

  1. Measuring net income for a merchandiser is conceptually the same as for a service company.

Solution: True

  1. For a merchandiser, sales less operating expenses is called gross profit.

Solution: False

Gross Profit = Sales Revenue- Cost of goods sold

  1. For a merchandiser, the primary source of revenues is the sale of inventory.

Solution: True

  1. Sales salaries and wages is an example of an operating expense.

Solution:True

  1. The operating cycle of a merchandiser is the same as that of a service company.
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Solution:False

The added asset account for a merchandise Company is the Inventory Account.

6. In a perpetual inventory system, no detailed inventory records of goods on hand are

maintained.

Solution:False

In a perpetual inventory system a detailed record for the inventory in hand is maintained.

7. In a periodic inventory system, the cost of goods sold is determined only at the end of the

accounting period.

Solution:True

8. A periodic inventory system provides better control over inventories than a perpetual system.

Solution:False

Since a perpetual inventory system has a detailed record of the inventory in hand,one can check that the amount of goods agrees with the inventory record and any variance in records can be investigated immediately.

E5-2 Information related to Almond Co. is presented below.

1. On April 5, purchased merchandise from Morris Company for $23,000, terms 2/10, net/30,

FOB shipping point.

Instructions

(a) Prepare the journal entries to record these transactions on the books of Almond Co. under

a perpetual inventory system.

Solution:

Dr Merchandise Inventory 23,000

Cr Accounts Payable 23,000

2. On April 6, paid freight costs of $900 on merchandise purchased from Morris.

Dr Merchandise Inventory 900

Cr Cash 900

3. On April 7, purchased equipment on account for $26,000.

Dr Equipment 26,000

Cr Accounts Payable 26,000

4. On April 8, returned damaged merchandise to Morris Company and was granted a $3,000

credit for returned merchandise.

Dr Accounts Payable 3000

Cr Merchandise Inventory 3000

  1. On April 15, paid the amount due to Morris Company in full.

Dr Accounts Payable 20,000 (23000-3000)

Cr Cash 19,600

Cr Merchandise Inventory 400 (2% of 20,000)

(b) Assume that Almond Co. paid the balance due to Morris Company on May 4 instead of

April 15. Prepare the journal entry to record this payment.

Dr Accounts Payable 20,000

Cr Cash 20,000

E5-13 Presented below is financial information for two different companies.

Dae Company

Kim Company

$

$

Sales revenue

90,000

(d)

Sales returns

(a)

5,000

Net sales

87,000

102,000

Cost of goods sold

56,000

(e)

Gross profit

( b)

41,500

Operating expenses

15,000

(f)

Net income

(c)

15,000

Instructions

(a) Determine the missing amounts.

(b) Determine the gross profit rates. (Round to one decimal place.)

a)

Solution

a) Sales Return =Sales Revenue – Net Sales

=90,000-87000

=3,000

b) Gross profit =Net Sales – Cost of goods sold

=87,000-56000

=31,000

c) Net Income =Gross profit-Operating Expenses

=31,000-15,000

= 16,000

d) Sales Revenue =Sales Returns + Net Sales

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=102,000+5000

=107,000

e) Cost of goods sold = Net Sales –Gross Profit

=102,000-41,500

=60,500

f) Operating Expenses = Gross Profit – Net Income

= 41,500 – 15,000

= 26,500

Final Table would look like this:

Dae Company

Kim Company

$

$

Sales revenue

90,000

107,000

Sales returns

3,000

5,000

Net sales

87,000

102,000

Cost of goods sold

56,000

60,500

Gross profit

31,000

41,500

Operating expenses

15,000

26,500

Net income

16,000

15,000

(b) Determine the gross profit rates. (Round to one decimal place.)

Profit rates= Gross Profit/Net Sales

Dae company profit rates

Gross profit ÷Net sales = 31,000 ÷87,000=35.6%

Kim company profit rates

Gross profit ÷Net sales =41,500 ÷ 102,000=40.7%

E18-8 Selected comparative statement data for Navin Products Company are presented on the

next page. All balance sheet data are as of December 31.

2013 2012

Net sales $760,000 $720,000

Cost of goods sold 480,000 440,000

Interest expense 7,000 5,000

Net income 50,000 42,000

Accounts receivable 120,000 100,000

Inventory 85,000 75,000

Total assets 580,000 500,000

Total common stockholders’ equity 430,000 325,000

Instructions

Compute the following ratios for 2013.

(a) Profit margin.

(b) Asset turnover.

(c) Return on assets.

(d) Return on common stockholders’ equity.

Solution;

(a)Profit margin = Net income/Net sales = $50,000/$760,000 = 6.58% (b) Asset turnover = Net sales/Average total assets = $760,000/540,000 = 1.41 times (c) Return on assets = EBIT/Average total assets = $57,000/540,000 = 10.56% (d) Return on common stockholders’ equity = Net income/Average stockholders' equity

=$50,000/377,500 = 13.25%

Notes: Average Total Assets= (Total Assets 2013 + Total Assets 2012)/2

= (580,000+500,000)/2

= 540,000

Notes: Average stockholders' equity = (Total common stockholders’ equity 2013 +

Total common stockholders’ equity2012)/2

= (430,000+325,000)/2

= 377,500

E18-9 The income statement for Mary Hatch, Inc., appears below.

MARY HATCH, INC.

Income Statement

For the Year Ended December 31, 2012

Net sales $400,000

Cost of goods sold 230,000

Gross profit 170,000

Expenses (including $16,000 interest and $24,000 income taxes) 105,000

Net income $ 65,000

Additional information:

1. The weighted-average common shares outstanding in 2012 were 30,000 shares.

2. The market price of Mary Hatch, Inc. stock was $13 in 2012.

3. Cash dividends of $26,000 were paid, $5,000 of which were to preferred stockholders.

Instructions

Compute the following ratios for 2012.

(a) Earnings per share.

(b) Price-earnings.

(c) Payout.

(d) Times interest earned

Solutions:

a) EPS = (65,000-5,000)/30,000 = $2.00.

(b)Price Earnings =13/2= 6.5 times.

(c)Payout = 26,000/65,000= 40%.

(d)Times interest earned = (65,000+16,000+24,000)/16,000

=105,000/16,000

=6.6 times.

E22-11 In 2012, Paterno Company had a break-even point of $350,000 based on a selling price

of $7 per unit and fixed costs of $105,000. In 2013, the selling price and the variable cost per unit did not change, but the break-even point increased to $420,000.

Instructions

(a) Compute the variable cost per unit and the contribution margin ratio for 2012.

(b) Compute the increase in fixed costs for 2013.

Solutions

  1. Contribution margin ratio = Unit contribution margin ÷ Selling Price per Unit

To derive this we need to calculate Unit Contribution Margin

Unit contribution margin = Fixed costs ÷ Number of sale units to achieve breakeven

= $105,000 ÷ ($350,000 ÷ $7)

= $2.10

Variable cost per unit = selling price per Unit –contribution margin per unit

= $7.00 – $2.10

= $4.90

Therefore

Contribution margin ratio = $2.10 ÷ $7.00 = 30%

(b) Break-even sales ($) = Fixed costs ÷ Contribution margin ratio

Fixed costs = $420,000 ÷ 3= $126,000

Since fixed costs were $105,000 in 2011, the increase in 2012 is

= ($126,000 – $105,000).

= $21,000

E23-9 Duke Company combines its operating expenses for budget purposes in a selling and

administrative expense budget. For the first 6 months of 2012, the following data are available.

1. Sales: 20,000 units quarter 1; 22,000 units quarter 2.

2. Variable costs per dollar of sales: Sales commissions 5%, delivery expense 2%, and

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advertising 3%.

3. Fixed costs per quarter: Sales salaries $10,000, office salaries $6,000, depreciation $4,200,

insurance $1,500, utilities $800, and repairs expense $600.

4. Unit selling price: $20.

Instructions

Prepare a selling and administrative expense budget by quarters for the first 6 months of 2012.

Solution:

HALF YEAR SELLING AND ADMINISTRATIVE BUDGET

FOR JAN 2012 TO JUNE 2012

Quarter

1

2

Budgeted Sale Units

20,000

22,000

Selling Price/Unit

20

20

Variable Expenses

Sales Commission

20,000

22,000

Delivery Expense

8,000

8,800

Advertising

12,000

13,200

Total Variable Expenses

40,000

44,000

Fixed Expenses

Sales Salaries

10,000

10,000

Office Salaries

6000

6000

Depreciation

4200

4200

Insurance

1500

1500

Utilities

800

800

Repairs

600

600

Total Fixed Expenses

23,100

23,100

Total Selling and Administrative Expense

63,100

67,100

P22-2A Hytek Company bottles and distributes Livit, a diet soft drink. The beverage is sold for

50 cents per 16-ounce bottle to retailers, who charge customers 75 cents per bottle. For the year

2012, management estimates the following revenues and costs.

Net sales $1,800,000 Selling expenses—variable $70,000

Direct materials 430,000 Selling expenses—fixed 65,000

Direct labor 352,000 Administrative expense

Manufacturing overhead variable 20,000

Variable 316,000 Administrative expenses fixed 60,000

Manufacturing overhead

Fixed 283,000

Instructions

(a) Prepare a CVP income statement for 2012 based on management’s estimates.

(b) Compute the break-even point in (1) units and (2) dollars.

(c) Compute the contribution margin ratio and the margin of safety ratio. (Round to full percents.)

(d) Determine the sales dollars required to earn net income of $238,000.

Solution

HYTEK COMPANY

CVP Income Statement (Estimated)

For the Year Ending December 31, 2012 $

Net sales

1,800,000

Variable expenses

Cost of goods sold

1,098,000

Selling expenses

70,000

Administrative expenses

20,000

Total variable expenses

1,188,000

Contribution margin

612,000

Fixed expenses

Cost of goods sold

283,000

Selling expenses

65,000

Administrative expenses

60,000

Total fixed expenses

408,000

Net income

204,000

Notes

*Direct materials $430,000 + direct labor $352,000 + variable manufacturing

overhead $316,000

*Contribution margin is Net Sales -Total Variable Costs

b)

First Calculate Units of Bottles sold

No of Units sold = Total Sales Revenue/Cost of one bottle

= 1,800,000/0.75

= 2,400,000 Units

Total Variable Cost ($)

Direct Material

430,000

Direct Labor

352,000

Manufacturing OHD

316,000

Admin Expenses

20,000

Selling Expenses

70,000

TOTAL

1,188,000

Units Sold

2,400,000

Total Variable Cost

$1,188,000

VC per Unit

$0.50

Total Fixed Cost ($)

Manufacturing OHD

283,000

Admin Expenses

60,000

Selling Expenses

65,000

TOTAL FC

$408,000

b) i

Break-even=Fixed Costs + Total Variable Costs = Total Sales

= 408,000 + 0.50x = 0.75x(where x is the number of units required)

=408,000=0.75x-0.50x

=408,000/0.25=x

= 1,632,000 =x

The number of Units required to breakeven is 1,632,000

b) ii

Number of Units required to breakeven = 1,632,000

Selling price /Unit = $ 0.75

Breakeven in dollars = 1632,000 X 0.75

= $1,224,000

c) Contribution Margin=Sales Price - Variable Cost

=0.75- 0.50

=0.25

Contribution Margin Ratio=Contribution Margin / Selling price

= 0.25/ 0.75

=33%

Margin of Safety= Budgeted Sales - Break-Even Sales

= $1,800,000 - $1,224,000

= $576,000

Margin of Safety (%) =576,000/1,800,000

= 32%

d) Sales dollars required to earn net income of $238,000.

Net Income = Total Sales – (Fixed Costs + Total Variable Costs)

Here x is the number of units

238,000 = 0.75x – (408,000 + 0.50x)

238,000+ 408,000 =0.75x- 0.50x

646,000 = 0.25 x

2,584,000 = x

No of Units required to earn net income of $238,000 are 2,584,000

Sales dollars required to earn net income of $238,000.

= 2,584,000 x 0.75

= $1,938,000

P22-3A Magic Manufacturing’s sales slumped badly in 2012. For the first time in its history, it

operated at a loss. The company’s income statement showed the following results from selling

600,000 units of product: Net sales $2,400,000; total costs and expenses $2,540,000; and net loss

$140,000. Costs and expenses consisted of the amounts shown below.

Total Variable Fixed

Cost of goods sold $2,100,000 $1,440,000 $660,000

Selling expenses 240,000 72,000 168,000

Administrative expenses 200,000 48,000 152,000

$2,540,000 $1,560,000 $980,000

Management is considering the following independent alternatives for 2013.

1. Increase unit selling price 20% with no change in costs, expenses, and sales volume.

2. Change the compensation of salespersons from fixed annual salaries totaling $150,000 to total

Salaries of $60,000 plus a 3% commission on net sales.

3. Purchase new automated equipment that will change the proportion between variable and

Fixed cost of goods sold to 54% variable and 46% fixed.

Instructions

(a) Compute the break-even point in dollars for 2012.

(b) Compute the break-even point in dollars under each of the alternative courses of action.

(Round all ratios to nearest full percent.) Which course of action do you recommend?

Solution

  1. Break-even=Fixed Costs + Total Variable Costs = Total Sales

Current sales price per unit = $2,400,000 / 600,000

= $4.00

Current variable cost per unit = 1,560,000/ 600,000

= $2.60

Break-even= 980,000 + 2.60x = 4x

=980,000 =4x – 2.60x

=980,000/1.4x

= 700,000 Units

In dollars = 700,000 x 4

= $2,800,000

b)

1. Increase unit selling price 20% with no change in costs, expenses, and sales volume.

New selling price = $4.00 x 1.20 = $4.80

= 980,000 + 2.60x = 4.80x

= 445,455 Units

In dollars = 445,455 x 4.8

= $ 2,138,182

2. Change the compensation of salespersons from fixed annual salaries totaling $150,000 to total

Salaries of $60,000 plus a 3% commission on net sales.

Solution

When we change the compensation of the sales person as above,

The fixed cost for selling expenses will be equal to:

$168,000 - $150,000 + $60,000 = $78,000

The total variable Selling cost will be:

$72000 + 3% x $2,400,000= $144,000

The total fixed cost and variable cost will be changed accordingly:

Total

Variable

Fixed

Cost of goods sold

$2,100,000

$1,440,000

$660,000

Selling expenses

$240,000

$144,000

$78,000

Administrative expenses

$200,000

$48,000

$152,000

Total

$2,540,000

$1,632,000

$890,000

Due to the change in variable cost, the variable cost per unit equals to:

= 1,632,000/600,000

= $2.72/ Unit

The break-even point in unit will be:

Break-even=Fixed Costs + Total Variable Costs = Total Sales

= 2.72x + $890,000 = 4x

=890,000=4x -2.72x

X = 695,312.50 Units

In dollars

= 695,312.50 x 4

= $2,781,250

3. Purchase new automated equipment that will change the proportion between variable and

Fixed cost of goods sold to 54% variable and 46% fixed.

New variable Cost of goods sold =2,100,000 x 54%

= $1,134,000

New fixed Cost of goods sold = 2,100,000 x 46%

= $966,000 Selling price per Unit =2,400,000 / 600,000

= $4.00

New Variable Cost per Unit = Variable Cost of goods sold + Variable Selling expenses +

Variable Administrative expenses

= (1,134,000 + 72,000 + 48,000) / 600,000

= $2.09 variable cost per unit

New Fixed Cost per Unit = Fixed Cost of goods sold + Fixed Selling expenses +

Fixed Administrative expenses

= 966,000 + 168,000 + 152,000

= $1,286,000 total fixed costs

Break-even

=Fixed Costs + Total Variable Costs = Total Sales

=1,286,000 + 2.09x = 4x

x = 673,298.43 Units

In dollars = 673,298.43 x $4.00

= $2,693,194 (Rounded to nearest whole number)

The break-even point in dollars for 3 courses are: $ 2,138,182; $2,781,250; $2,693,194. Thus, the first course of action is recommended as it gives the smallest break-even point in dollars.