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Exam 2: Cost Behavior, operating Leverage, and Profitability Analysis

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Question 51

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The BRC Company is considering the introduction of a new line of high end electronics.Because there is considerable uncertainty with regard to the demand for the products,the company would probably be served better by a variable cost structure.

A) True
B) False

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Question 52

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Hard Nails and Bright Nails are competing nail salons.Both companies have the same number of customers.Both charge the same price for a manicure.The only difference is that Hard Nails pays its manicurists on a salary basis (i.e.,a fixed cost structure) while Bright Nails pays its manicurists on the basis of the number of customers they serve (i.e.,a variable cost structure) .Both companies currently make the same amount of net income.If sales of both salons increase by an equal amount,Hard Nails:

A) will earn a higher profit than Bright Nails.
B) will earn a lower profit than Bright Nails.
C) will earn the same amount of profit as Bright Nails.
D) The answer cannot be determined from the information provided.

E) A) and B)
F) A) and C)

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Question 53

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The following income statement is provided for Ramirez Company for the current year: $\begin{array}{lr}\text { Sales revenue (2,500 units } \times \$ 40 \text { per unit) } & \$ 100,000\\\text { Cost of goods sold (variable; } 2,500 \text { units } \times \$ 16 \text { per unit) } & (40,000) \\\text { Cost of goods sold (fixed) } & \underline{ (8,000) }\\\text { Gross margin } & 52,000 \\\text { Administrative salaries } & (12,000) \\\text { Depreciation } & (8,000) \\\text { Supplies }(2,500 \text { units } \times \$ 4 \text { per unit) } & \underline{ (10,000) }\\\text { Net income } & \underline{\$ 22,000}\end{array}$ What amount was the company's contribution margin?

Based on the following cost data,items labeled (a) and (b) in the table below are which of the following amounts,respectively? $\begin{array}{lrr} \text { Number of units: } &1,500&3,000\\ \text { Total cost: } &\\ \text { Variable} &\$7,500&\$15,00\\ \text { Fixed} &\$6,000&\$6,000\\\\ \text { Cost per unit:} &\\ \text { Variable } &\$5&(a) \\ \text { Fixed }&\$4&(b) \end{array}$

In the graph below,which depicts the relationship between units produced and unit cost,the dotted line depicts which type of cost per unit?

Cannon Company operates a clothing store that reported the following operating results for the current year: $\text { Income Statement }$ $\begin{array}{lrr}\text { Sales revenue } & \$ 2,000,000 \\\text { Cost of goods sold } & (1,200,000) \\\text { Gross margin } & \$ 800,000 \\\text { Employee commissions and bonuses ( } 5 \% \text { of sales) } & (100,000)\\\text { Depreciation expense } & (150,000) \\\text { Salaries expense } & (260,000) \\\text { Shipping and delivery expense (2\% of sales) } & (40,000) \\\text { Advertising expense } & (80,000) \\\text { Net income } & \$ \quad 170,000\end{array}$ Required: Prepare an income statement for Cannon Company using the contribution margin format.

Based on the income statements of the three following retail businesses,which company has the highest operating leverage? $\begin{array}{c}\begin{array}{l}\\\\\text {Revenue}\\ \text {Variable costs}\\\text { Contribution margin }\\\text {Fixed costs}\\ \text {Net income}\\\end{array} \begin{array}{lll}\text { Alpha}\\\text { Company}\\200,000 \\(95,000) \\\$ 105,000 \\(80,000) \\\$ 25,000\end{array}\begin{array}{c}\\\text { Beta Company } \\\$ 200,000 \\ (155,000) \\\$ 45,000 \\ (20,000) \\ \$ 25,000\end{array}\begin{array}{cc}\text { Gamma}\\\text { Company}\\\$ 200,000 \\ (125,000) \\ \$ 75,000 \\ (50,000) \\\$ 25,000\end{array}\end{array}$

The contribution margin format income statement classifies costs according to their behavior patterns.

A disadvantage of the high-low method is that the high point and low point may not be representative of the total data set available.

How does fixed cost per unit behave when volume decreases?

Risk refers to the possibility that sacrifices may exceed benefits.

Based on the following operating data,the operating leverage is: $\begin{array} { l r } \text { Sales } & \$ 500,000 \\\text { Variable costs } & \underline{280,000} \\\text { Contribution margin } & 220,000 \\\text { Fixed costs } & \underline{180,000} \\\text { Income from operations }& \underline{\$ 40,000} \\\end{array}$

Frazier Company sells women's ski jackets.The average sales price is $275 and the variable cost per jacket is $175.Fixed Costs are $1,350,000.If Frazier sells 15,000 jackets,the contribution margin will be:

The following information is for Gable,Inc.and Harlowe,Inc.for the recent year. $\begin{array} { l r r r } & \text { Gable, Inc. } & \text { Harlowe, Inc. } \\\text { Sales } & \$ 800,000 & \$ 800,000 \\\text { Variable costs } & \underline{ 400,000 }& \underline{200,000 }\\\text { Contribution margin } & 400,000 & 600,000 \\\text { Fixed costs } & \underline{200,000 } & \underline{ 400,000} \\\text { Income from operations }& \underline{ \$ 200,000 }& \underline{ \$ 200,000}\end{array}$ What total amount of net income will Harlowe,Inc.earn if it experiences a 10 percent increase in revenue?

Costs that might be incurred by service,merchandising,and manufacturing companies are described below: Required: Classify each cost as variable (V)or fixed (F)with respect to volume or level of activity.

The following information is given regarding driving lessons provided by Arrive Alive Company over several spans of time: $\begin{array} { l r r r } & & { \text { Length of Tine } } \\& \text { TODAY } & \text { ONE YEAR } & \text { FIVE YEARS } \\\text { Total cost of lessons } & \$ 600 & \$ 110,000 & \$ 508,000 \\\text { Number of lessons } & 50 & 10,000 & 55,000\end{array}$ Select the incorrect statement from the following.

One way that computing an average cost per unit facilitates management decision making is that managers are provided more timely and more relevant cost information.

The following income statement is provided for Vargas,Inc. $\begin{array} { l r } \text { Sales reverule (2,500 urits } \times \$ 60 \text { per unit) } & \$ 150,000 \\\text { Cost of goods sold (variable; } 2,500 \text { urits } \times \$ 20 \text { per unit) } & ( 50,000 ) \\\text { Cost of goods sold (fixed) } & \underline{ ( 8,000 ) } \\\text { Gross margin } & 92,000 \\\text { Adrninistrative salaries } & ( 42,000 ) \\\text { Depreciation } & ( 10,000 ) \\\text { Supplies } ( 2,500 \text { urits } \times \$ 4 \text { per unit) } & \underline{( 10,000 ) } \\\text { Net income } & \underline{ \$ 30,000} \\\end{array}$ What is this company's magnitude of operating leverage?

Which of the following equations can be used to compute a firm's magnitude of operating leverage?

Complete the following table to indicate your understanding of fixed and variable cost behavior by inserting one of the following responses in each box: "Remain constant," "Increase," or "Decrease." $\begin{array} { | l | l | l | } \hline & \begin{array} { l } \text { When Activity } \\\text { Increases }\end{array} & \begin{array} { l } \text { When Activity } \\\text { Decreases }\end{array} \\\hline \text { Unit fixed costs } & & \\\hline \text { Total fixed costs } & & \\\hline \text { Unit variable costs } & & \\\hline \text { Total variable costs } & & \\\hline\end{array}$