J & B Sports and its customer Sports Strength
Activity 1
Answer 1
- The petrol cost of company owned vehicles used for product delivery is considered to be a variable cost as the fuel or petrol consumption vary with mileage.
- The monthly sales staff payroll of $12000 is a fixed cost as it is a fixed amount of pay given to the staff. On the other hand, the 6% sales commission on jerseys is a variable cost as it varies with the units of jerseys sold. Therefore, the payroll plus the sales commission is known as the mixed cost, which is inclusive of both fixed and variable elements.
- The monthly rental of $300 for credit card processing equipment is fixed in nature as it is a fixed amount that has to be paid each month.
- Cost of goods sold for $14.80 per jersey is variable in nature as it includes all those costs that are variable and change with the number of units sold
- The cost ($1) of price tags attached to each jersey is variable cost as it changes with the number of units sold.
- Inventory insurance that costs $2 per $1000 of sales is a variable cost as it changes with the amount of inventory lost. The more the inventory is covered, the higher the inventory insurance is paid.
- Web hosting costs are operating costs, therefore, will be categorized as mixed costs, which have both fixed and variable elements.
Answer 2
- The operating profit = contribution margin – fixed costs
From the contribution format income statement we can deduce operating profits through the above equation. In Sports strength’s case, the operating profit will be as follows:
Operating profit = 207900 – 190,000 = $17,900
- The number of units of the jerseys sold can be deduced as follows:
No. of jerseys or units sold = sales/unit cost = 1039500/20 = 51975 jerseys.
If it had sold 16% less than it had expected then the number of jerseys it would have planned to sell can be calculated as follow:
No. of jerseys = 16% less sales/unit cost
= 873180/20 = 43659 jerseys.
The extra sales value is = original sales – new sales
= 1039500 – 873180
= 166320
- If the number of jerseys sold were 70,000, then the cost of goods sold will be $103600 and the sales commission will be $84000
Sales = 70,000 x $20 = 1400,000
Cost of goods sold = $14.8 x 70000 = $1036000
Sales commission = 1400000 x 6% = $84000
Therefore, the total variable expenses shown in the income statement will be:
Cost of goods sold + sales commission = 1036000+ 84000
= $1120000
And the fixed expenses of $190,000 remain the same.
The total expenses being: variable expenses + fixed expenses = 1120000+190000 = $1310000
- The ad campaign is fixed cost or expense that does not change with the changes in the number of jerseys produced or the sales volume of the jerseys. Therefore, the amount of $35000 will come in the fixed expenses section of the income statement and there will be an operating loss of $17100.
- The number of jerseys = 65000
Income statement for the next year ending February 1st, 2020
$ $
Sales 1300,000
Less: variable expenses
Cost of goods sold 962000
Sales commission 78000
Contribution margin 260,000
Less: fixed expenses
Selling 116500
Administration 73500
Advertising 35000 225000
Operating income 35000
- The Ad Campaign should be accepted by Sports Strength as it gave an operating profit of $35000, which is more than that of the last years operating income. Sports Strength’s variable costs include the cost of goods sold and the sales commission, which are both dependent on the number of jerseys sold for the given year. Its fixed costs included selling and administration expenses in the year 2019, however, after the implication of the advertising campaign, the cost of advertising of $35000 has been incurred which is fixed in nature. It will, hence, come in the fixed costs section of the income statement. The variable costs change with the change in units produced, and include the labor costs, costs of goods sold, commissions, utilities and bonuses. The fixed costs do not change with the production levels, such as the selling, administration and advertising expenses. It is essential to allocate the costs appropriately and reduce them as much as possible.
In case of Sports Strength, the year ended 2020 gave an operating profit of $35000 which means that even after incurring the ad campaign costs, the operating is going to be higher than the last year, when there were only selling and administration expenses.
In order to keep producing the jerseys, Sports Strength needs to at least cover its direct costs, which are the costs of goods sold and the sales commissions.
It is important for any business to keep track of its costs and their behaviour so that it can control it and reduce it as much as possible. The fixed costs will remain the same, unless there are additional fixed costs being incurred or if the previous fixed costs have been cut off. On the other hand, the variable costs can be controlled through the production level, or changes in prices of the units produced. The controlling of the costs gives the ability to the business to react to the changes in the environment and compete with the strongest competitors The information on the costs behavior could be used to make decisions, such as, is it necessary to reduce the price to sell more units, the planned performance for the next year, should the labour be rewarded through fixed salaries or floating wage commissions?, etc. (Novák and Popesko 2014).
One the other hand, the information from the contribution margin statement could be used to deduce the contribution margin ratio which tells when the revenues exceed the variable costs of producing those revenues. As each additional unit sold of a specific product contributes to a margin towards profit, this ratio help sin making important decisions. The contribution margin statement could also be used for profit planning, product mix decisions, budgetary control and pricing decisions (Ihemeje, Okereafor and Ogungbangb 2015).
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Activity 2
- Break-even point of sports strength before any changes took place
= (fixed costs/revenue per unit) – variable cost per unit.
= (190000/20) – 16
= 9500 – 16
= 9484 units or jerseys
Break-even in dollars = fixed cost/contribution margin ratio
= 190000/ (207900/1039500)
= 190000/0.20
= $ 950,000
Where contribution margin ratio is: (total revenue – variable costs)/total revenue
- Margin of safety for sports strength in year ending February 1st 2019
= actual sales – breakeven point
= 1039500 – 950,000
= $89,500
Margin of safety in units = (actual sales – breakeven point)/selling price per unit
= 89500/20
= 4475 units or jerseys
Margin of safety in percentage = (actual sales – break-even point)/actual sales
= 89500/1039500
= 0.086%
This margin of safety percentage will help Sports Strength in analyzing the sales forecasts and will help in ensuring that the sales will not go below this percentage.
- If the cost of goods sold increased to $15.30 per unit, and all other things remained the same, then the operating income would be as follows:
$ $ $
Sales 1,039,500
Less: variable expenses
Cost of goods sold 795217
Sales commissions 62,370
Total variable expenses 857587
Contribution margin 181913
Less: fixed expenses
Selling 116,500
Administrative 73,500
Total fixed expenses 190,000
Operating income/loss (8087)
Decrease in operating income = - 8087 – 17900
= $ (25987)
The operating income would decrease by $25987 if Sports Strength did nothing to recover the increase in cost of goods sold.
- Plan A: -
$ $
Sales 1065488
Less: variable costs
Cost of goods sold 795218
Sales commission 63929 859147
Contribution margin 206341
Less: fixed expenses
Selling 116,500
Administrative 73,500
Advertising 15000
Total fixed expenses 205000
Expected Operating income 1341
Plan B:
$ $
Sales 1205820
Less: variable costs
Cost of goods sold 795217
Sales commission 41580 836797
Contribution margin 369023
Less: fixed expenses
Selling 116,500
Administrative 73,500
Advertising 10000
Salaries 22000
Total fixed expenses 222000
Expected Operating income 147023
- The first plan gives an operating income of $1341. The reduction in operating income compared to the operating income of the year ended 2019 is $16559, which is greater than the advertising cost of $15000. This is because the sales price has also increased, giving higher sales revenue. The sales commission also increased, thus, decreasing the value of the contribution margin.
- Memo for Sports Strength advertising campaign
MEMORENDUM
To: The Sports Strength Management
From: Advertising Consultant
Date: 25th April, 2019
Subject: Choosing Advertising Plan B
Advertising Costs:
The advertising costs in plan A has to be $15000 and in plan B has to be $10000. The advertising cost for plan A is higher than that of plan B.
Sales commission:
The sales commission in plan A has increased due to the increase in sales revenue. In plan B, the sales commission has decreased due to the decrease in the percentage allocated to the sales commission from 6% to 4%.
Sales salaries:
In spite of the decrease in the sales commission, there is going to be additional sales salaries for the staff, amounting $22000.
Selecting Plan B:
Although there has been fixed expenses of advertising amounting $1000 and additional sales salaries of $22000, the operating income is still higher than that of plan A. This is because of the expected 16% in sales volume, which change the contribution margin and is sufficient to cover all the previous and additional fixed expenses. Therefore, I recommend choosing plan B over plan A for greater profits and greater sales volume.
Activity 3
Predetermined Overhead rate = total overheads/ direct labour dollars
= 365607/ 74,208
= 4.92
- 1- Total manufacturing costs = 9.87(13500) + 11.17(3200) + 77.12(2500)
= 133245 + 35744 + 192800
= $ 361789
2 - Cost of goods sold = $ beg finished goods inventory + cost of goods manufactured – ending finished goods inventory
COGM = COGS - Beg FG inventory– end FG inventory
= 9.87(14000) +11.17(3100) +77.12(2500) – 0 – 0
= $ 365607
3 - Ending WIP inventory = beg WIP + Manufacturing costs – COGM
= 5565 + 361789 – 365607
= $ 1747
4 – Gross profit for June: $160773
$
Sales (14000) (12) + (3100) (14.8) + (2500) (125) 526380
Less: cost of goods sold (365607)
Gross profit for June 160773
- At the end of June, the finished goods inventory = cost of goods manufactured – cost of goods sold
= 365607 – 365607
= 0
Therefore, the finished goods ending inventory remain same as they were on June 1.
- 1) The adjustments the accountant made are unethical, referring to the Australian Accounting code of ethics because, according to the Australian Accounting Code of Ethics, she should follow the principles as follows:
- Integrity – she should be honest and straightforward in all professional relationships with fair dealings and truthfulness
- Objectivity – she should not make decisions which compromise professional or business judgement
- Professional competence and due care – she should maintain professional competence with understanding of relevant technical skills and professional and business developments
- Confidentiality – she should maintain confidentiality regarding her work for the company.
The accountant should not take actions which are portraying the desired results by sabotaging the financial information in the financial statements. She should work with honesty and should consult an expert before taking any action.
- J & B sports might have to incur additional costs if the accountant overestimates the ending work in progress inventory. By overestimating or under-estimating Work in progress inventory, upstream procedures may end up in a loss or surplus to run down. There will be misleading information which could lead to wrong raw material purchases, which can further disturb the stock and drive up cash flow or drive up costs. Therefore, incorrect work in progress may lead to production errors and as it is a taxable item, overestimating can lead to heavy fines by the auditors.
Activity 4
- Product design activity rate = 88889/3
= $ 29630 per product lines
Warehousing/packaging activity rate = 190562 / 9175
= $ 20.7 per batch
Cutting activity rate = 146847 / 56585
= $ 2.59 per cut
Sewing activity rate = 210820 / 86170
= $2.45 per direct labour hours
- The least refined cost would be the product design which will be the product line level, then warehousing or packaging which is the batch level, then cutting which is the unit level and then the most refined cost would be sewing, which is the level of direct labour hours. The more the cost is refined, the more difficult it is to trace it.
- Cutting pool schedule
$
Indirect labour 75000
Indirect material 135700
Other 3647
Operating costs 15090
Total 2229437
- Cost per cut = 2229437/56585
= $ 39.39 per cut
If the number of cuts increase due to the purchase of this new cutting tool, then the cost per cut which has been calculated in (d) will decrease.
- After purchasing the new cutting tool, the number of jerseys produced will increase, therefore, the packaging activity rate and the sewing activity rate will be affected. The product design pool will remain unaffected as the new tool does not affect the design of the products and the number of product lines will also be unchanged.
- The unit cost of all the three products will change after the purchase of the new product because the jerseys produced will be increased, and the as the new tool will also be used on the shorts and jackets, the annual operating costs will be related to these products also, although the units produced of these two products will be unchanged due to other factors.
- MEMORENDUM
To: Chris Desmond, J & B’s Sports Operating Manager
From: Accounting Consultancy
Date: 26th April, 2019
Subject: To purchase the new cutting tool or not?
ABC method:
ABC method allows to deal with the operating costs and to find better ways of allocating and eliminating the overheads. Therefore, this method enables J & B Sports to identify the costs that are related to each product. So, when the new cutting tool is bought, it will be easier to decide if the purchase was beneficial or not; it improves costing and profitability analysis.
Other changes
With the purchase of the new cutting tool, the operating costs are increasing. Although the batch of jerseys increases, the costs incurred are greater than that of the profits that will be earned. Therefore, it is better not to purchase the new cutting tool.
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