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House of Organs, Inc. , purchases organs from a well-known manufacturer and sells them at the retail level. The organs sell, on the average, for $2,500 each. The average cost of an organ from the manufacturer is $1,500. House of Organs, Inc. , has always kept careful records of its costs. The costs that the company incurs in a typical month are presented below in the form of a spreadsheet: Costs Cost Formula Selling: Advertising . . . . . . . . . . . . . . . . . . . . . . . . . $950 per month Delivery of organs . . . . . . . . . . . . . . . . . . $60 per organ sold Sales salaries and commissions . . . . . . . . . $4,800 per month, plus 4% of sales Utilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . $650 per month Depreciation of sales facilities . . . . . . . . . . $5,000 per month Administrative: Executive salaries . . . . . . . . . . . . . . . . . . . $13,500 per month Depreciation of office equipment . . . . . . . $900 per month Clerical . . . . . . . . . . . . . . . . . . . . . . . . . . . $2,500 per month, plus $40 per organ sold Insurance . . . . . . . . . . . . . . . . . . . . . . . . . . $700 per month During November, the company sold and delivered 60 organs. Required: 1. Prepare an income statement for November using the traditional format with costs organized by function. 2. Redo (1) above, this time using the contribution format with costs organized by behavior. Show costs and revenues on both a total and a per unit basis down through contribution margin. 3. Refer to the income statement you prepared in (2) above.Why might it be misleading to show the fixed costs on a per unit basis? SOLUTION 1. | |House Of Organs, Inc. | | |Income Statement | | |For the Month Ended November 30 | | | | | | | |Sales (60 organs ? 2,500 per organ) | |$150,000 | | |Cost of goods sold | |   90,000 | | |(60 organs ? 1,500 per organ) | | | | |Gross margin | |60,000 | | |Selling and administrative expenses: | | | | |Selling expenses: | | | | |Advertising |$    950 | | | |Delivery of organs |3,600 | | | |(60 organs ? $60 per organ) | | | | |Sales salaries and commissions |10,800 | | | |[$4,800 + (4% ? 150,000)] | | | | |Utilities |650 | | | |Depreciation of sales facilities |   5,000 | | | |Total selling expenses | 21,000 | | | |Administrative expenses: | | | | |Executive salaries |13,500 | | | |Depreciation of office equipment |900 | | | |Clerical |4,900 | | | |[$2,500 + (60 organs ? 40 per organ)] | | | | |Insurance |     700 | | | |Total administrative expenses | 20,000 | | | |Total selling and administrative expenses | |   41,000 | | |Net operating income | |$? 19,000 | |2. | | | |House Of Organs, Inc. | |Income Statement | | |For the Month Ended November 30 | | | | | | | | |Total |Per Unit | | |Sales (60 organs ? $2,500 per organ) |$150,000 |$2,500 | | |Variable expenses: | | | | |Cost of goods sold |90,000 |1,500 | | |(60 organs ? 1,500 per organ) | | | | |Delivery of organs |3,600 |60 | | |(60 organs ? $60 per organ) | | | | |Sales commissions (4% ? $150,000) |6,000 |100 | | |Clerical (60 organs ? $40 per organ) |    2,400 |      40 | |Total variable expenses | 102,000 | 1,700 | | |Contribution margin |  48,000 |$  800 | | |Fixed expenses: | | | | |Advertising |950 | | | |Sales salaries |4,800 | | | |Utilities |650 | | | |Depreciation of sales facilities |5,000 | | | |Executive salaries |13,500 | | | |Depreciation of office equipment |900 | | | |Clerical |2,500 | | | |Insurance |       700 | | | |Total fixed expenses |   29,000 | | | |Net operating income |$ 19,000 | | 3. Fixed costs remain constant in total but vary on a per unit basis with changes in the activity level. For example, as the activity level increases, fixed costs decrease on a per unit basis. Showing fixed costs on a per unit basis on the income statement make them appear to be variable costs. That is, management might be misled into thinking that the per unit fixed costs would be the same regardless of how many organs were sold during the month. For this reason, fixed costs should be shown only in totals on a contribution-type income statement.
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