Question

Situation 1

Honest Andrea’s Auto Dealer purchases used cars at auto auctions and sells them retail. The autos, on average, sell for approximately $20,000 each and cost Andrea $13,000. The costs that the company incurs in a typical month are listed below:

Costs                                                                                 Cost Formula

Selling:

      Advertising                                                                 $3,800 per month

      Preparation of Autos for Delivery                              $    750 per auto sold

      Sales salaries & commissions                                      $4,500 per month, plus 7% of sales

      Utilities                                                                       $5,200 per month

      Depreciation on sales facility                                      $4,500 per month

Administrative:

      Executive salaries                                                        $14,000 per month

      Depreciation on office equipment                              $2,200 per month

      Clerical staff salaries                                                   $3,500 per month

      Insurance                                                                     $1,800 per month

During April, Honest Andrea’s sold 65 autos.

Required

Prepare a traditional income statement as of April 30. All numbers should be rounded to the nearest dollar.

Prepare a contribution format income statement as of April 30. All numbers should be rounded to the nearest dollar. Show costs and revenues on both a total and per unit basis down through the contribution margin.

What costs does the Contribution Margin Income Statement format isolate (make apparent) that the Traditional Income Statement format does not?

For the statement you prepared for Part 2, why might it be misleading to show the fixed costs on a per unit basis?

Answer 1

Month - April

Number of sales = 65 auto's

Cost per auto = $13,000

Seeling price per auto = $20,000

a. Traditional Income statement as of April 30

Sales revenue (Note 1)		$1,300,000
Less: Cost of Goods Sold (Note 2)		$845,000
Gross Profit		$455,000
Less: Selling and administrative expenses (Fixed and Variable)
Selling expenses:
Advertising	$3,800
Preparation of Autos for Delivery (Note 3)	$48,750
Sales salaries & commissions (Note 4)	$95,500
Utilities	$5,200
Depreciation on sales facility	$4,500
	$157,750
Administrative expenses:
Executive salaries	$14,000
Depreciation on office equipment	$2,200
Clerical staff salaries	$3,500
Insurance	$1,800
	$21,500
Total Selling and Administrative expenses		$179,250
Net Profit		$275,750

Note 1 - Sales revenue

Number of sales = 65 auto's

Selling price per auto = $20,000

Therfore, total sales revenue = 65 auto's x $20,000 = $1,300,000

Note 2 - Cost of Goods sold

Number of sales = 65 auto's

Cost per auto = $13,000

Total cost of auto = $65 auto's x $13,000 = $845,000

Note 3 - Preparation of Autos for Delivery

Number of autos sold = 65 auto's

Preparation of Autos for Delivery = $750

total cost of Preparation of Autos for Delivery during april = 65 auto's x $750 = $48,750

Note 4 - Sales salaries & commissions

Number of auto's sold during april = 65 auto's

Selling price per auto = $20,000

Sales commission per auto = sales x 7% = $20,000 x 7% = $1,400

Total sales Commission = 65 auto's x $1,400 = $91,000

Sales salaries during april = $4,500

Total sales salaries & Commission = $91,000 + $4,500 = $95,500

b. Contribution format income statement as of April 30

	Per unit		Total
Sales revenue	$20,000		$1,300,000
Less: Variable costs
Cost of Goods sold	$13,000	$845,000
Preparation of Autos for Delivery	$750	$48,750
Sales commission	$1,400	$91,000	$984,750
Contribution margin	$4,850		$315,250
Less: Fixed costs
Advertising		$3,800
Sales salaries		$4,500
Utilities		$5,200
Depreciation on sales facilities		$4,500
Executive salaries		$14,000
Depreciation on office equipment		$2,200
Clerical staff salaries		$3,500
Insurance		$1,800	$39,500
Net profit			$275,750

3. Contribution format income statement differentiates between variable oosts and Fixed costs. This classification of total costs into variable and fixed is what isolates the Contribution Margin Income Statement from the traditional income statement format.

4.  As the fixed costs do not change with respect to change in number of units, it will be misleading to show the fixed costs on a per unit basis.