Question

Toxaway Company is a merchandiser that segments its business into two divisions—Commercial and Residential. The company’s accounting intern was asked to prepare segmented income statements that the company’s divisional managers could use to calculate their break-even points and make decisions. She took the prior month’s companywide income statement and prepared the absorption format segmented income statement shown below:

    Total

Company   Commercial   Residential

Sales   $   945,000      $   315,000      $   630,000  

Cost of goods sold      630,000           170,100           459,900  

Gross margin      315,000           144,900           170,100  

Selling and administrative expenses      292,000           130,000           162,000  

Net operating income   $   23,000      $   14,900      $   8,100  

In preparing these statements, the intern determined that Toxaway’s only variable selling and administrative expense is a 10% sales commission on all sales. The company’s total fixed expenses include $67,500 of common fixed expenses that would continue to be incurred even if the Commercial or Residential segments are discontinued, $76,000 of fixed expenses that would be avoided if the Commericial segment is dropped, and $54,000 of fixed expenses that would be avoided if the Residential segment is dropped.

Required:

1. Do you agree with the intern’s decision to use an absorption format for her segmented income statement?

2. Based on a review of the intern’s segmented income statement.

a. How much of the company’s common fixed expenses did she allocate to the Commercial and Residential segments?

b. Which of the following three allocation bases did she most likely used to allocate common fixed expenses to the Commercial and Residential segments: (a) sales, (b) cost of goods sold, or (c) gross margin?

3. Do you agree with the intern’s decision to allocate the common fixed expenses to the Commercial and Residential segments?

4. Redo the intern’s segmented income statement using the contribution format.

5. Compute the companywide break-even point in dollar sales.

Answer 1

1. No.

2. a.

	Commercial	Residential
Common Fixed Expenses	$ 22,500	$ 45,000

Workings:

	Commercial	Residential
	$	$
Total Selling and Administrative Expenses	130,000	162,000
Less: Variable Selling and Adminis	31,500	63,000
Less Traceable Fixed Expenses	76,000	54,000
Common Fixed Expenses	22,500	45,000

b. Sales

3. No.

4. Contribution Format Segmented Income Statement:

	Total	Commercial	Residential
	$	$	$
Sales	945,000	315,000	630,000
Variable Expenses
Variable Cost of Goods Sold	630,000	170,100	459,900
Sales Commission	94,500	31,500	63,000
Total Variable Expenses	724,500	201,600	522,900
Contribution Margin	220,500	113,400	107,100
Traceable Fixed Expenses	130,000	76,000	54,000
Segment Margin	90,500	37,400	53,100
Common Fixed Expenses	67,500
Net Operating Income	23,000

5. Companywide break-even point in dollar sales :

Contribution Margin Ratio = Contribution Margin / Sales = $ 220,500 / $ 945,000 = 0.2333 or 23.33 %

Total Fixed Cost = $ ( 130,000 + 67,500) = $ 197,500

Break-even point = $ 197,500 / 23.33% = $ 846,549.51 or $ 846,550.