Milden Company has an exclusive franchise to purchase a prod

Milden Company has an exclusive franchise to purchase a product from the manufacturer and distribute 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 of good sold Advertising expense Sales commissions Shipping expense Administrative salaries Insurance expense Depreciation expense Cost Formula $27 per unit sold $184,000 per quarter 7% of sales $94,000 per quarter $10,400 per quarter $64,000 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: Shipping Units Sold Expense Quarter Year 1 First Second Third Fourth 30,000 $174,000 32,000 $189,000 37,000 $231,000 33,000 $194,000 Year 2 First Second Third Fourth 31,000 $184,000 34,000 $199,000 44,400 $246,000 41,400 $222,000 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

Solution

Answer

High Activity level is the level when we sold the Maximum no. of Units i.e. 3^rd Quarter of 2^nd Year (44,400 Units)

Low Activity Level is the level when we sold the minimum no. of units i.e. 1^st Quarter of 1^st Year (30,000 Units)

Units Sold

Shipping Expenses

High Activity Level

44,400

246,000

Low Activity Level

30,000

174,000

Change

14,400

72,000

Variable Cost per unit

5

Per unit

Fixed Cost element

24,000

We know that Variable Cost changes with units, so

Variable cost = Change in Shipping Expenses / Change in Units

= $72,000 / 14,400 Units

Variable cost = $5 Per Unit

We know that Fixed cost will remain same irrespective of the no. of Units produced, so we will calculate Fixed cost when selling 30,000 Units

Total Cost = Variable Cost + Fixed Cost

Fixed Cost = Total Cost – Variable Cost

= 174,000 – ($5 per unit * 30,000 Units)

Fixed Cost = $24,000

Cost Formula

Cost = Fixed Expenses + (Variable cost p.u. * No. of Units)

Cost = $24,000 + ($5 p.u. * No. of Units)

	Units Sold	Shipping Expenses
High Activity Level	44,400	246,000
Low Activity Level	30,000	174,000
Change	14,400	72,000
Variable Cost per unit	5	Per unit
Fixed Cost element	24,000