Question

Diego Company manufactures one product that is sold for $73 per unit in two geographic regions—the East and West regions. The following information pertains to the company’s first year of operations in which it produced 44,000 units and sold 39,000 units.

Variable costs per unit:
Manufacturing:
Direct materials	$	23
Direct labor	$	16
Variable manufacturing overhead	$	2
Variable selling and administrative	$	4
Fixed costs per year:
Fixed manufacturing overhead	$	748,000
Fixed selling and administrative expense	$	400,000

The company sold 29,000 units in the East region and 10,000 units in the West region. It determined that $180,000 of its fixed selling and administrative expense is traceable to the West region, $130,000 is traceable to the East region, and the remaining $90,000 is a common fixed expense. The company will continue to incur the total amount of its fixed manufacturing overhead costs as long as it continues to produce any amount of its only product.

7. What is the amount of the difference between the variable costing and absorption costing net operating incomes (losses)?

a. What is the company’s break-even point in unit sales?

9. If the sales volumes in the East and West regions had been reversed, what would be the company’s overall break-even point in unit sales?

10. What would have been the company’s variable costing net operating income (loss) if it had produced and sold 39,000 units? You do not need to perform any calculations to answer this question.

11. What would have been the company’s absorption costing net operating income (loss) if it had produced and sold 39,000 units? You do not need to perform any calculations to answer this question.

12. If the company produces 5,000 fewer units than it sells in its second year of operations, will absorption costing net operating income be higher or lower than variable costing net operating income in Year 2?

13. Prepare a contribution format segmented income statement that includes a Total column and columns for the East and West regions.

14. Diego is considering eliminating the West region because an internally generated report suggests the region’s total gross margin in the first year of operations was $30,000 less than its traceable fixed selling and administrative expenses. Diego believes that if it drops the West region, the East region's sales will grow by 5% in Year 2. Using the contribution approach for analyzing segment profitability and assuming all else remains constant in Year 2, what would be the profit impact of dropping the West region in Year 2?

15. Assume the West region invests $34,000 in a new advertising campaign in Year 2 that increases its unit sales by 20%. If all else remains constant, what would be the profit impact of pursuing the advertising campaign?

Answer 1

Answer 7	Production	44000	units
	Sold	39000
DIEGO Company
Income Statement (variable costing)
	Formula	Rate/Cost
Sales	Sold Units*Selling price	73	2,847,000
Variable Cost
Opening Inventory			-
Cost of Goods Sold	(Sold Units * Cost per unit)
Direct Material		23	897,000
Direct Labour		16	624000
Variable Manufacturing Overhead		2	78000
GROSS CONTRIBUTION MARGIN	Sales-Direct Variable Cost		1,248,000
Variable Selling Expenses	Sold units*Selling Expense per unit	4	156000
Contribution Margin	Gross Contribution - Variable Selling Expense		1,092,000
Fixed Manufacturing Overhead			748000
Fixed Selling and Admin Expenses			400000
Net Operating Income			(56,000)
Absorption Costing Rate	(Variable cost +Fixed Cost)/units produced
Variable Cost	44000 units
Direct Material	23
Direct Labour	16
Variable Manufacturing Overhead	2
Variable selling overhead	4
Fixed Manufacturing overhead	17
(Fixed Manufacturing Ovehead)/units produced
Cost per unit	62
DIEGO Company
Income Statement (Absorption Costing)
	Formula	Rate/Cost	Absorption Costing
Sales	Sold Units*Selling price	73	2,847,000
Cost of Goods Sold	(Sold Units * Cost per unit)	62	2,418,000
Variable Selling Expenses	Sold units*Selling Expense per unit		156,000
Gross Profit			273,000
Fixed Selling and Admin Expenses			400,000
Net Operating Income			(127,000)
Answer a)	Break even sales (in units)
Formula	Fixed Cost/Contribution Margin
Fixed Cost	1,148,000
Contribution Margin per unit	Selling Price - Variable Cost
	(73-(23+16+2+4))
	28
Break Even Units	1148000/28
	41000
	West Region	East Region	Total
Units	29,000	10,000	39,000
Fixed Cost Selling Cost	180,000	130,000	310,000
Common Cost	66,923	23,077	90,000
Total Fixed Selling Cost	246,923	153,077	400,000
Fixed Manufacturing overhead	556,205	191,795	748000
Fixed Cost Region Wise	803,128	344,872	1,148,000
Break even Region Wise	28,683	12,317	41,000
Answer 9)
Units interchanged
	West Region	East Region	Total
Units	10,000	29,000	39,000
Fixed Cost Selling Cost	180,000	130,000	310,000
Common Cost	23,077	66,923	90,000
Total Fixed Selling Cost	203,077	196,923	400,000
Fixed Manufacturing overhead	191,795	556,205	748000
Fixed Cost Region Wise	394,872	753,128	1,148,000
Break even Region Wise	14,103	26,897	41,000
Answer 10)
Net operating LOSS if variable costing followed in case of 39000 units produced and sold would have been the same as calculated above in Answer 7
($56,000)
Answer 11)
Net Operating LOSS if Absorption costing followed in case of 39000 units produced and sold would have been
Absorption Costing RATE
Variable Cost	23+16+2+4	45
Fixed Cost
(Manufacturing Overhead)	748000/39000	19
		64
INCOME STATEMENT (Absorption costing)
39000 units produced and sold
Sales	73	2,847,000
Cost of Goods Sold	64	2,496,000
Gross Profit		351,000
Fixed selling and admin expenses		400,000
Net PROFIT/LOSS		(49,000)
Answer 12)
5000 units sold lesser
Final units	34000
Absorption Costing RATE
Variable Cost	23+16+2+4	45
Fixed Cost
(Manufacturing Overhead)	748000/44000	17
		62
34000 units produced and sold-Absorption Costing (Year 2)
Sales	73	2,482,000
Cost of Goods Sold	62	2,108,000
Gross Profit		374,000
Fixed selling and admin expenses		400,000
Net PROFIT/LOSS		(26,000)
34000 units produced and sold-Variable Costing (Year 2)
Sales	73	2,482,000
Variable cost	45	1,530,000
Contribution		952,000
Fixed selling and admin expenses		400,000
Net Operating Income/Loss		552,000
Answer 13)
Particulars	West Region	East Region	Total
Units	29,000	10,000	39,000
Sales @$73	2,117,000	730,000	2,847,000
Variable Cost @$45	1,305,000	450,000	1,755,000
Contribution	812,000	280,000	1,092,000
Fixed Cost Selling Cost	180,000	130,000	310,000
Common Cost	66,923.08	23,076.92	90,000
Total Fixed Selling Cost	246,923	153,077	400,000
Fixed Manufacturing overhead	556,205	191,795	748000
Net Operating income/loss	8,872	(64,872)	(56,000)
Answer 14)
West Region	dropped
East Region	Sales increased by 5%	10500
Particulars	East Region
Units	10,500
Sales @$73	766,500
Variable Cost @$45	472,500
Contribution	294,000
Fixed Cost Selling Cost	130,000
Common Cost	90,000
Total Fixed Selling Cost	220,000
Fixed Manufacturing overhead	748,000
Net Operating income/loss	(674,000)
Answer 15)
Profitability of East region will remain same
Particulars	West Region
Units (INCREASED BY 20%)	34,800
Sales @$73	2,540,400
Variable Cost @$45	1,566,000
Contribution	974,400
Fixed Cost Selling Cost	180,000
Common Cost	23,077
Additional Adertisement Campaign	34,000
Total Fixed Selling Cost	237,077
Fixed Manufacturing overhead	191,795
Net Operating income/loss	545,528