Question

Sea Vista Company operates tour boats. Itspredicted operations for the year are as follows:

Revenues(2,000 tours per year)	$600,000
Costs:
Variable	$200 per tour
Fixed	$120,000 per year

From the above information, the company correctly determines that its total cost per tour at the projected level of output noted above is as follows:

Total variable costs ($200 * 2,000)	$400,000
Total Fixed Costs	$120,000
Total costs	$520,000
Divided by the number of tours for the year	2,000
= Total cost per tour	$260

The company has received a request to provide 90 tours at a price of $205 each, which constitutes a very large discount from their regular price. Sea Vista has plenty of capacity to do these tours in addition to its regular business, and it has been determined that doing these tours will not affect the company's regular sales in any way.

Required:

A. Prepare an income statement (in contribution margin format) for Sea Vista for the year without the inclusion of the special request for the 90 tours at the lower price.

B. Prepare an income statement (in contribution margin format) for Sea Vista for the year that includes the special request for the 90 tours at the lower price.

C. Should Sea Vista accept the special request for the additional 90 tours at the dramatically discounted price that is actually below their total cost per tour?

Answer 1

Variable costs are the costs that changes with change in activity however fixed costs are constant and do not change with increase or decrease in activity.

(1) Contribution margin income statement

	2,000 tours
Sales	$600,000
Less: Variable costs	($400,000)
Contribution Margin	$200,000[$600,000-$400,000]
Less: Fixed costs	($120,000)
Net income(loss)	$80,000 [$200,000-$120,000]

(2) Contribution margin income statement including special order

	2,090 tours
Sales	$618,450 [$600,000+$205*90]
Less: Variable costs	($418,000) [$200*2090]
Contribution Margin	$200,450[$618,450-$418,000]
Less: Fixed costs	($120,000)
Net income(loss)	$80,450 [$200,450-$120,000]

(3)Yes, company should accept special order as it increase net income by $450

Price is not below the variable cost.So, it is safe to accept the special request.

Here, fixed costs are irrelevant as they will remain same irrespective of activity.