Question

Morrisey & Brown, Ltd., of Sydney is a merchandising company that is the sole distributor of a product that is increasing in popularity among Australian consumers. The company’s income statements for the three most recent months follow:

Morrisey & Brown, Ltd. Income Statements For the Three Months Ended September 30
	July				August				September
Sales in units		9,000				9,500				10,000
Sales	$	945,000			$	997,500			$	1,050,000
Cost of goods sold		567,000				598,500				630,000
Gross margin		378,000				399,000				420,000
Selling and administrative expenses:
Advertising expense		30,800				30,800				30,800
Shipping expense		130,000				136,000				142,000
Salaries and commissions		165,000				173,000				181,000
Insurance expense		10,950				10,950				10,950
Depreciation expense		17,300				17,300				17,300
Total selling and administrative expenses		354,050				368,050				382,050
Net operating income	$	23,950			$	30,950			$	37,950

Required:

1. By analyzing the data from the company's income statements, classify each of its expenses (including cost of goods sold) as either variable, fixed, or mixed.

2. Using the high-low method, separate each mixed expense into variable and fixed elements. Express the variable and fixed portions of each mixed expense in the form Y = a + bX.

3. Redo the company’s income statement at the 10,000-unit level of activity using the contribution format.

Answer 1

1.

	Totals			Per unit			Fixed/
	July	August	September	July	August	September	Variable/
							Mixed
Sales in units	9000	9500	10000
Sales Revenue	945000	997500	1050000	105.00	105.00	105.00
Cost of goods sold	567000	598500	630000	63.00	63.00	63.00	Variable
Gross margin	378000	399000	420000	42.00	42.00	42.00
Selling and administrative expenses:
Advertising expense	30800	30800	30800	3.42	3.24	3.08	Fixed
Shipping expense	130000	136000	142000	14.44	14.32	14.20	Mixed
Salaries and commisions	165000	173000	181000	18.33	18.21	18.10	Mixed
Insurance expense	10950	10950	10950	1.22	1.15	1.10	Fixed
Depreciation expense	17300	17300	17300	1.92	1.82	1.73	Fixed
Total selling and administrative expense	354050	368050	382050	39.34	38.74	38.21
Net operating income	23950	30950	37950	2.66	3.26	3.80
a.From the above analysis, we can say that cost of goods sold is a variable cost as the per unit cost is the same at all
levels of sales units.
b. We also can conclude that advertising, insurance and depreciation expenses are fixed expenses as the total amount
is constant at all levels of activity (sales).
c. Shipping and salaries and commission expenses are mixed, as the cost per unit is varying and the total amounts are
also varying at different levels of activity. We need to bifurcate these costs into fixed and variable components.
This wll be done using the high-low methd as shown below.

2.

Shipping expense
Variable component for 9,000 units (9,000 x $12.00)				108000
Fixed Component   -- (130,000 - 108,000)				22000
Total for 9,000 units				130000
Check:
Variable component for 9,500 units (9,500 x $12.00)				114000
Fixed component				22000
Total for 9,500 units				136000

Working:

	Sales units	Cost
High	10000	142000
Low	9000	130000
Difference	1000	12000
Cost per unit(12,000/1,000)		$12.00

Salaries and commissions
Variable component for 9,000 units (9,000 x $16.00)				144000
Fixed Component   -- (165,000 - 144,000)				21000
Total for 9,000 units				165000
Check:
Variable component for 9,500 units (9,500 x $16.00)				152000
Fixed component				21000
Total for 9,500 units				173000

Working:

	Sales units	Cost
High	10000	181000
Low	9000	165000
Difference	1000	16000
Cost per unit(16,000/1,000)		$16.00

3.

Sales units		10000
Sales revenue ($105 per unit)		1050000
Variable costs:
Cost of goods sold ($63.00 per unit)	630000
Shipping expenses($12.00 per unit)	120000
Salaries and commissions($16.00 per unit)	160000
Total variable costs		910000
Contribution margin		140000
Fixed Expenses:
Shipping expenses	22000
Salaries and commissions	21000
Advertising	30800
Insurance expense	10950
Depreciation	17300
Total fixed expenses		102050
Net operating income		37950