Question

1. Cost Classification: The Lee’s have provided you with the following costs and relevant information that are assumed for year 20XY.

A. Classify each of the costs (a. through j.) below under C. as a variable cost or a fixed cost.

B. Explain the importance of distinguishing between variable and fixed costs.

C. Prepare a budgeted income statement, assuming 600 units to be produced and sold, a per unit selling price of $85, an income tax rate of 28% and the following information.

1. Cost of goods sold of $35 per unit
2. Labor = $400/month
   • One part-time employee will be hired to take care of packaging and shipping. This employee will be paid $10 per hour. He or she is estimated to work 40 hours total per month.
3. Advertising fees = $3,000
4. Bank fees = $200
5. Phone/internet = $150 per month
6. Shipping = $3 per unit
7. Utilities = $100 per month
8. Office Supplies = $900
1. Conference Exhibitor Fee = $3000
10. Travel Expenses for Conference (e.g. airfare, meals, taxi) = $1200

2. Budget Preparation: The Lees believe that production and sales could double after being on Shark Tank which is scheduled in December of 20XY. They want to be prepared for this. Based on the budgeted income statement calculated above for 20XY, create a new budgeted income for 20XZ assuming that the production and sales is double the level of 20XY.

Answer 1

A	In order to take decisions under different situations, costs are classified into two groups. They are-
	1. Fixed cost. It does not change with the change in quantity produced. Rent of a house is contractually fixed. So it is a fixed cost.
	2. Variable cost: It directly changes with output. Usually per unit variable cost is fixed. It is multiplied by quantity to get total variable cost
	Some costs are partly fixed partly variable in nature. They are discussed below:
	1. Cost of goods sold: It is $35 per unit. As per unit cost is fixed, total cost of goods will depend upon quantity produced. If production is 600 units then total cost of goods sold is-
	$35*600 units	$21,000
	2. Labor cost is 400 per month. as it is contractually fixed, it is a fixed cost.
	3. Part time labor: He is paid on hourly basis. Rate is $10 per hour. He is expected to work for 40 hours in a month. So he is paid a constant amount $10x40=$400. Hence it is also fixed cost.
	4. Advertising: It is $3,000 per month. So it does not depend upon quantity produced and sold. Hence it is fixed cost.
	5. Bank fees: it is also fixed at $200 per month. So it is a fixed cost.
	6. Phone and internet: it is also fixed at $150 per month.
	7. Shipping : It is $3 per unit. So it will change with the quantity. It is variable. For 600 units total shipping cost is-
	$3*600 units	$1,800
	8. Utilities: It is also fixed at $100 per month
	9. Office supplies is fixed at $900 per month.
	10. Conference exhibitors fees is fixed. Amount is $3000.
	11. Travel: it is also fixed at $1200.
B	This classification is vary crucial in decision making purpose. Many decisions, like buy or sale, close down of a department, optimum product mix etc are taken on the basis of fixed and variable cost differentiation. Also budget preparation requires consideration of the fixed and variable separately.
C	Budgeted income statement for a month is shown below-
	Details	Amount	Amount
	1. Quantity produced and sold		600 units
	2. Sale @ 85 per unit [$85x600 units]		$51,000
	3. Cost of goods sold [$35x600 units]		$21,000
	4. Gross profit : [2-3]		$30,000
	5. Other variable cost :
	-Shipping @$3 per unit [3x600]	$1,800	$1,800
	6.total contribution [4-5]		$28,200
	7. Total fixed cost-   i
	-labor	$400
	-Casual labor	$400
	-Advertising	$3,000
	-Bank fees	$200
	-Phone/internet	$150
	-utilities	$100
	-Office supplies	$900
	-Conference exhibitors fees	$3,000
	-Travel expense	$1,200
	Total fixed cost		$9,350
	8. Net profit [7-8]		$18,850
	9. Income tax 28% on 8.		$5,278
	10. Profit after tax [8-9]		$13,572
2	create a new budgeted income for 20XZ assuming that the production and sales is double the level of 20XY.
	Details	Amount	Amount
	1. Quantity produced and sold		1200 units
	2. Sale @ 85 per unit [$85x1200 units]		$102,000
	3. Cost of goods sold [$35x1200 units]		$42,000
	4. Gross profit : [2-3]		$60,000
	5. Other variable cost :
	Shipping @$3 per unit [3x1200]	$3,600	$3,600
	6.Total contribution [4-5]		$56,400
	7. Total fixed cost-   i
	-labor	$400
	-Casual labor	$400
	-Advertising	$3,000
	-Bank fees	$200
	-Phone/internet	$150
	-utilities	$100
	-Office supplies	$900
	-Conference exhibitors fees	$3,000
	-Travel expense	$1,200
	Total fixed cost		$9,350
	8. Net profit [7-8]		$47,050
	9. Income tax 28% on 8.		$13,174
	10. Profit after tax [8-9]		$33,876