5.3 Toxaway Company is a merchandiser that segments its business into two divisi

Question

5.3

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:

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 $84,000 of common fixed expenses that would continue to be incurred even if the Commercial or Residential segments are discontinued, $32,000 of fixed expenses that would be avoided if the Residential segment is dropped, and $54,000 of fixed expenses that would be avoided if the Commericial segment is dropped.

Required:

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

Yes or No?

2-a. Based on the intern’s segmented income statement, can you determine how she allocated the company’s common fixed expenses to the Commercial and Residential segments? common fixed expenses commerical? residential?

Total Company Commercial Residential Sales $ 780,000 $ 260,000 $ 520,000 Cost of goods sold 517,400 143,000 374,400 Gross margin 262,600 117,000 145,600 Selling and administrative expenses 248,000 108,000 140,000 Net operating income $ 14,600 $ 9,000 $ 5,600 3. Redo the intern's segmented income statement using the contribution format. Toxaway Company Variable Costing Income Statement Total Company CommeroialResidential Variable expenses Total variable expenses

Explanation / Answer

Answer:

1

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

Answer: NO

Explanation:

The intern’s decision to use the absorption format for her segmented income statements is a bad idea because it does not focus on cost behavior. To make decisions and perform break-even analysis, the contribution format is superior to the absorption format because it separates costs into variable cost and fixed cost categories

__________________________________

2

2-a

Total Company

Commercial

Residential

Total selling and administrative expense

248000

108000

140000

Traceable fixed expenses

86000

54000

32000

Sales commissions (10% of sales)

78000

26000

52000

Selling and administrative expenses accounted for

164000

80000

84000

Common fixed cost

84000

28000

54000

Total Company

Commercial

Residential

Common fixed cost

84000

28000

54000

2-b

2-b. The amount of common fixed expenses allocated to Residential ($56,000) is twice as much as the amount of common fixed expenses allocated to Commercial ($28,000). Because the Residential sales ($520,000) are twice as much as the Commercial sales ($260,000), it appears that the common fixed expenses were allocated to segments based on sales dollars. Allocating common fixed expenses is a bad idea because these costs are not traceable to segments and they are not affected by segment-level decisions

______________________________________________

3

variable costing income statement

Total Company

Commercial

Residential

Sales

780000

260000

520000

Less: Variable costing

Cost of goods sold

517400

143000

374400

Sales Commission

78000

26000

52000

Total Variable cost

595400

169000

426400

Contribution margin

184600

91000

93600

Less:

Traceable fixed expenses

86000

54000

32000

Segment Margin

98600

37000

61600

Less: Common fixed cost

84000

Net operating income

14600

______________________________________________________________

4

Dollar sales for company to break even

= Traceable fixed expenses + Common fixed expenses / Overall CM ratio

=86000+84000 /0. 0.237 (rounded)

=170000/0.237

=$717300

__________________________________

5

Dollar sales for a segment to break-even- Commercial Division

= Segment traceable fixed expenses / Segment CM ratio

=54000/0.35

= $154,286 (rounded)

Dollar sales for a segment to break-even- Residential Division

= Segment traceable fixed expenses / Segment CM ratio

=32000/0.18

= $177,778 (rounded)

Commercial

Residential

Break-even point in dollar sales

154286

177778

+___________________________________________________

6

Dollar sales for a segment to break-even- Commercial Division

= Segment traceable fixed expenses / Segment CM ratio

=67000/0.40

= $167500(rounded)

Dollar sales for a segment to break-even- Residential Division

= Segment traceable fixed expenses / Segment CM ratio

=58000/0.23

= $252,174(rounded)

Commercial

Residential

Break-even point in dollar sales

167500

252174

Total Company

Commercial

Residential

Total selling and administrative expense

248000

108000

140000

Traceable fixed expenses

86000

54000

32000

Sales commissions (10% of sales)

78000

26000

52000

Selling and administrative expenses accounted for

164000

80000

84000

Common fixed cost

84000

28000

54000

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