Question

milden company has an exclusive franchise to purchase a product from the manufacturer and distribut it on the retail level. As an aid in planning, the company has decided to start using a contribution format income statement. To have data to prepare such a statement, the company has analyzed its expenses and has developed the following cost formulas:

cost                                                   cost formula

cost of good sold                             $29 per unit sold

advertising expense                        $179,ooo per quarter

sales commissions                          8%

shipping expenses                           ?

administrative salaries                     $89,000 per quarter

insurance expenses                        $9,900 per quarter

depreciation expenses                    $59,000 per quarter

Management has concluded that shipping expense is a mixed cost, containing both variable and fixed cost elements. Units sold and the related shipping expense over the last eight quarters follow

Quarter                      Unit Sold                          Shipping Expense

Year ;:

First                         25,000                                   $169,000

Second                    27,000                                  $184,000  

Third                        32,000                                  $226,000

Fourth                      28,000                                  $189,000

Year 2:

First                       26,000                                     $179,000

Second                 29,000                                      $194,000

Third                    37,000                                       $241,000

Fourth                  34,000                                      $217,000

Milden Company's president would like a cost formula derived for shipping expense so that a budgeted contribution format income statement can be prepared for the next quarter.

Required:

1. Using the high-low method, estimate a cost formula for shipping expense based on teh data for the last eight quarters above.

High activity level                        Units Sold                                      Shipping Expense

Low activity level

Change

Variable cost per unit

Fixed cost element

2. In the first quarter of Year 3, the company plans to sell 33,000 units at a selling price of $59 per unit; Preparew a contributionformat income statement for the quarter.(Do not round your intermediate calculations)

Fourth

Answer 1

• All working forms part of the answer
• Answer 1: using High Low Method to derive Cost Formula for Shipping expense

	Period	Unit Sold	Shipping expense
Highest Activity Level	Year 2, Third Quarter	37000	$241000
Low activity Level	Year 1, First quarter	25000	$169000
Change		12000	$72000

Variable (Shipping expense) cost per unit

A	Change in Shipping expense	$72000
B	Change in units Sold	12000
C= A / B	Variable cost per unit	$6

Calculation of Fixed Shipping expense

Working		High Level	Low Level
A	Total Shipping expense	$241000	$169000
B	Units sold	37000	25000
C	variable shipping expense per unit	$6	$6
D = B x C	Total variable shipping expense	$222000	$150000
E = A - D	Total Fixed Shipping expense	$19000	$19000

Fixed Element = $19,000

Hence, cost formula will be-

Total Shipping expenses = Total Fixed Cost + Total Variable Cost
Total Shipping expenses = $19000 + $6x

*where ‘x’ is the units sold.

• Answer 2

Shipping expense as per cost formula for 33000 units will be:
$19000 + $6 x 33000 units
$19000 (Fixed) + $198000 (Variable)
= $217,000

Income Statement for 33000 units

	Units	Per unit ($)	Amount ($)
Sales	33000	$59	1947000
(-) Variable cost:
Cost of Goods Sold	33000	29	957000
Shipping expense	33000	6	198000
Sales Commission	33000	4.72	155760
Total Variable cost	33000	$39.72	$1310760
Contribution Margin	33000	$19.28	$636240
(-) Fixed Cost:
Advertising expense			179000
Shipping expense			19000
Administrative salaries			89000
Insurance expense			9900
Depreciation expense			59000
Total Fixed Cost			$355900
Net Income			$280340