Case Study #3:
Detailed Income
Statement; CVP
Analysis
MANAGERIAL
ACCOUNTING 1
TABLE OF CONTENTS
I. Background of the Study ……………………………………………. 2
II. Statement of the Problem…………………………………………… 2
III. Answers to Case Question…………………………………………… 2
IV. Conclusions and Recommendations ……………………………… 5
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I. Background of the Study
The most recent income statement for Whitney Company appears below:
All variable expenses in the company vary in terms of unit sold, except for sales commissions, which are
based on sales dollars. Variable manufacturing overhead is 30 cents per unit. There were no beginning or
ending inventories. Whitney Company's plant has a capacity of 75.000 units per year.
The company has been operating at a loss for several years. Management is studying several possible
courses of action to determine what should be done to make next year profitable.
II. Statement of the Problem
The Whitney Company is facing a decline in market share due to increased competition and outdated
product offerings. Their current technology is falling behind, making it difficult to meet evolving
customer demands. Additionally, there is a lack of innovation and leadership alignment within the
company, leading to inefficiencies in operations. Employee morale is low, exacerbated by unclear
communication and insufficient professional development opportunities. As a result, Whitney Company
is struggling to maintain profitability and long-term sustainability.
III. Answers to Case Questions
1. Redo Whitney Company's income statement in the contribution format. Show both a Total
column and a Per Unit column on your statement. Leave enough space to the right of your numbers
to enter the solution to both parts of (2) below.
Whitney Company
` Income Statement
For the year ended December 31
TOTAL UNIT
Sales (45,000 units sold) 450,000 10
Less: Variable Expenses
Direct Materials 90,000 2.00
Direct Labor 78,300 1.74
Manufacturing Overhead 13,500 0.30
Shipping 5,400 0.12
Sales Commissions 27,000 0.60
Variable Administrative 1,800 0.04
Contribution Margin 234,000 5.20
Less: Fixed Expenses
Manufacturing Overhead 85,000 1.89
Advertising, Salaries 120,000 2.67
Administrative 48,000 1.07
Net Operating Loss 19,000 0.42
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2. The president is considering two proposals prepared by members of his staff:
a. For next year, the vice president would like to reduce the unit selling price by 20%. She is certain
that this would fill the plant to capacity.
b. For next year, the sales manager would like to increase the unit selling price by 20%, increase the
sales commission to 9% of sales, and increase advertising by $100,000. Based on marketing studies,
he is confident this would increase unit sales by one-third. Prepare two contribution income
statements, one showing what profits would be under the vice president's proposal and one showing
what profits would be under the sales manager's proposal. On each statement, include both Total
and Per Unit columns (do not show per unit data for the fixed costs).
ANSWER:
2A. Vice President’s Proposal
Whitney Company
Income Statement
For the year ended December 31
TOTAL UNIT
Sales (75,000 units sold) 600,000 8
Less: Variable Expenses
Direct Materials 150,000 2.00
Direct Labor 130,500 1.74
Manufacturing Overhead 22,500 0.30
Shipping 9,000 0.12
Sales Commissions 45,000 0.60
Variable Administrative 3,000 0.04
Contribution Margin 240,000 3.20
Less: Fixed Expenses
Manufacturing Overhead 85,000
Advertising, Salaries 120,000
Administrative 48,000
Net Operating Loss 13,000 0.17
2B. Sales Manager Proposal
Whitney Company
Income Statement
For the year ended December 31
TOTAL UNIT
Sales (60,000 units sold) 720,000 12
Less: Variable Expenses
Direct Materials 120,000 2.00
Direct Labor 104,400 1.74
Manufacturing Overhead 18,000 0.30
Shipping 7,200 0.12
Sales Commissions 64,800 1.08
Variable Administrative 2,400 0.04
Contribution Margin 403,200 6.72
Less: Fixed Expenses
Manufacturing Overhead 85,000
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Advertising, Salaries 220,000
Administrative 48,000
Net Operating Income 124,000 0.93
3. Refer to the original data. The president believes it would be a mistake to change the unit selling
price. Instead, he wants to use less costly raw materials, thereby reducing unit costs by 70 cents.
How many units would have to be sold next year to earn a target profit of $30,200?
Total Per unit Adjusted per unit %
Sales 480,000 10 10 100%
Variable Cost 196,800 4.8 4.1 41%
Contribution margin 283,200 5.2 5.9 59%
Fixed Cost 253,000
Profit $30,200
Contribution Margin = Fixed Cost + Desired Profit
= $253,000 + $30,200
= $ 283,200
Units to be sold next year = total sales/price per unit
= $480,000/$10 per unit
= 48,000 units
4. Refer to the original data. Whitney Company's board of directors believes that the company's
problem lies in inadequate promotion. By how much can advertising be increased and still allow the
company to earn a target profit of 4.5% on sales of 60,000 units?
Total Per Unit
Sales (60,000 units x $10 per unit) 600,000 10
Variable cost 288,000 4.8
Contribution Margin 312,000 5.2
Fixed Cost 253,000
Net Operating Income 59,000
Target profit (4.5% of sales) 27,000
Increase in advertising expense $32,000
5. Refer to the original data. The company has been approached by an overseas distributor who
wants to purchase 9.500 units on a special price basis. There would be no sales commission on these
units. However, shipping costs would be increased by 50% and variable administrative costs would
be reduced by 25%. In addition, a $5,700 special insurance fee would have to be paid by Whitney
Company to protect the goods in transit. What unit price would have to be quoted on the 9,500
units by Whitney Company to allow the company to earn a profit of $14.250 on total operations?
Regular business would not be affected by this special order.
PERCENTAGE PER UNIT
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SALES $450,000 100%
VARIABLE EXPENSES
DIRECT MATERIAL 90,000 2.00
DIRECT LABOR 78,300 1.74
MANUFACTURING OH 13,500 0.30
SHIPPING EXPENSES 8,100 0.18
VARIABLE 1,350 0.03
ADMINISTRATIVE
TOTAL VARIABLE 191,250 42.50% 4.25
EXPENSES
CONTRIBUTION MARGIN $258,750 57.50%
Desired Profit $14,250
Operating Loss 19,000
Required Profit $33,250
Variable Cost per unit:
Direct Material $2.0
Direct Labor 1.74
Manufacturing Overhead 0.30
Shipping Expenses 0.18
Variable Administrative 0.03
Total Variable Cost per unit $4.25 per unit
Insurance Fee $ 5,700
Profit 33,250
Contribution Margin $38,950
Contribution Margin per unit = Contribution Margin / Purchase units
= $38,950 / 9,500
= $4.1 per unit
Contribution Margin per unit = $4.1
Add: Variable Cost per unit = 4.25
Selling Price per unit = 8.35
IV. Conclusions and Recommendations
Whitney Company's original income statement shows a net operating loss of $19,000 for the year,
indicating that the company needs to reassess its pricing and cost structure.
By reducing the selling price by 20%, the vice president's proposal would lead to a slight improvement,
resulting in a reduced loss of $13,000. However, the contribution margin per unit drops significantly to
$3.20, which could pose risks if fixed costs remain unchanged or if sales volume does not meet
expectations.
In contrast, the sales manager’s proposal to increase the selling price by 20% and adjust costs
accordingly would yield a substantial profit of $124,000, reflecting a strong contribution margin of $6.72
per unit. This approach demonstrates the potential for greater profitability through enhanced pricing
strategy and marketing efforts. Whereas, to achieve a target profit of $30,200 without changing the selling
price, the company would need to sell approximately 48,000 units. This underscores the importance of
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maintaining volume while managing costs effectively. Moreover, the board's belief in inadequate
promotion suggests that enhancing advertising could yield significant returns. An increase of $32,000 in
advertising would still allow the company to meet its target profit of 4.5% on sales, indicating that
strategic investments in marketing could drive revenue growth. The analysis of the special order request
reveals that to achieve a profit of $14,250 from a one-time order of 9,500 units, the company would need
to set a unit price of approximately $7.75, factoring in increased shipping costs and additional fees. This
highlights the potential for leveraging special orders to improve profitability without impacting regular
operations. With these it is recommended that Witney Company should:
● Consider implementing the sales manager’s proposal to increase the selling price by 20%.
This approach has demonstrated a potential for significant profitability, supported by a
strong contribution margin. Evaluate the market response to ensure the new price point
remains competitive.
● Invest in targeted advertising campaigns to boost brand awareness and drive sales. Given
the board's belief in inadequate promotion, a strategic increase in advertising by $32,000
could yield substantial returns, helping to achieve the desired profit margin.
● Conduct a comprehensive review of the company's cost structure to identify areas for
reduction.
● Establish a robust sales forecasting system to ensure sales volumes align with projections.
Given the necessity of selling approximately 48,000 units to break even without price
adjustments, accurate sales tracking will help manage inventory and optimize production
levels.
● Assess the feasibility of accepting special orders at strategic price points, such as the
proposed $7.75 for the 9,500 units. This could provide a valuable avenue for additional
revenue without disrupting regular operations, thereby improving overall profitability.
Therefore, Whitney Company must focus on optimizing its pricing strategies, controlling costs, and
investing in marketing to turn its financial situation around. The differing impacts of the proposals
illustrate the potential benefits of thoughtful pricing adjustments and targeted promotions. The company’s
ability to navigate these changes effectively could determine its future success and profitability.
