Question

Toxaway Company is a merchandiser that segments its business into two divisions—Commercial and Residential. The company’s accounting intern was asked to prepare segmented income statements that the company’s divisional managers could use to calculate their break-even points and make decisions. She took the prior month’s companywide income statement and prepared the absorption format segmented income statement shown below:

	Total Company			Commercial			Residential
Sales	$	795,000		$	265,000		$	530,000
Cost of goods sold		535,300			148,400			386,900
Gross margin		259,700			116,600			143,100
Selling and administrative expenses		252,000			110,000			142,000
Net operating income	$	7,700		$	6,600		$	1,100

In preparing these statements, the intern determined that Toxaway’s only variable selling and administrative expense is a 10% sales commission on all sales. The company’s total fixed expenses include $82,500 of common fixed expenses that would continue to be incurred even if the Commercial or Residential segments are discontinued, $56,000 of fixed expenses that would be avoided if the Commericial segment is dropped, and $34,000 of fixed expenses that would be avoided if the Residential segment is dropped.

Required:

1. Do you agree with the intern’s decision to use an absorption format for her segmented income statement?

2. Based on a review of the intern’s segmented income statement:

a. How much of the company’s common fixed expenses did she allocate to the Commercial and Residential segments?

b. Which of the following three allocation bases did she most likely used to allocate common fixed expenses to the Commercial and Residential segments: (a) sales, (b) cost of goods sold, or (c) gross margin?

3. Do you agree with the intern’s decision to allocate the common fixed expenses to the Commercial and Residential segments?

4. Redo the intern’s segmented income statement using the contribution format.

5. Compute the companywide break-even point in dollar sales.

6. Compute the break-even point in dollar sales for the Commercial Division and for the Residential Division.

7. Assume the company decided to pay its sales representatives in the Commercial and Residential Divisions a total monthly salary of $14,000 and $28,000, respectively, and to lower its companywide sales commission percentage from 10% to 5%. Calculate the new break-even point in dollar sales for the Commercial Division and the Residential Division.

Answer 1

Answer with working is given below

1. No Absorption format is not recommended for segmented income statement Absorption format does not give Division wise contribution and not helpful in analysis to take decisions 2.a) Total Selling and administration expense Less: Sales Commission Less: Direct Fixed Cost Common expenses allocated Commercial Residential $110,000 $142,000 $26,500 $53,000 $56,000 $34,000 $27,500 $55,000 Total $252,000 $79,500 $90,000 $82,500 2.b) Sales basis Commercial (82,500/795,000) *265,000 Residential (82,500/795,000) *530,000 $27,500 $55,000 No, Common fixed expense should not be allocated Total $795,000 Segmented Income Statement - Contribution Format Commercial Residential Sales $265,000 $530,000 Variable cost COGS $148,400 $386,900 Sales Commission $26,500 $53,000 Contribution Margin $90,100 $90,100 Direct Fixed expenses $56,000 $34,000 Segment Margin $34,100 $56,100 Common Fixed Expense Net Operating Income $535,300 $79,500 $180,200 $90,000 $90,200 $82,500 $7,700 5. Break Even point Contribution Margin % (Contribution/Sales) 22.67% Fixed Cost $172,500 $761,029 Break Even point (Fixed Cost/Contribution Margin %) Break Even Point 6. Contribution Margin Sales Contribution Margin % Commercial Residential $90,100 $90,100 $265,000 $530,000 34.0% 17.0% Fixed Cost $56,000 $34,000 $164,706 $200,000 Break Even point (Fixed Cost/Contribution Margin %) New Break Even point 7. Sales COGS Sales Commission Contribution Contribution Margin % (Fixed Cost/Contribution Margin %) Commercial Residential $265,000 $530,000 $148,400 $386,900 $13,250 $26,500 $103,350 $116,600 39.0% 22.0% Fixed Cost Sales and administration expenses Revised Fixed cost $56,000 $14,000 $70,000 $34,000 $28,000 $62,000 $179,487 $281,818 Break Even Point (Fixed Cost/Contribution Margin %)