Variable and Fixed Costs - Essay Example

Contribution Margin Income ment Following is the contribution income ment of Herrested Company for the year ending December 31, In this income statement, all the variable costs are first deducted from total sales to get a contribution margin figure. After that, all the fixed expenses are then deducted from contribution margin figure to reach at the net income figure. In year 2011, Herrested Company earned contribution margin of $60 per unit or $480,000 in total with the net income of $180,000.

Herrested CompanyContribution Margin Income StatementFor the period ending December 31, 2011     per unitNo. of units soldTotalSales2508,000 2,000,000 Variable Cost Direct Material100 Direct Labor50 Variable Overhead30 Variable – Selling & Admin10 Total Variable Cost1908,000 1,520,000 Contribution608,000 480,000 Fixed – Overhead 200,000 Fixed – Selling & Admin 100,000 Net Income 180,000     If the selling price per unit is increased to $280, it will result in the increase of contribution margin per unit such that it would increase from $60 to $90 per unit or $720,000 in total.

Similarly, the net income will also increase from $180,000 to $420,000.Herrested CompanyContribution Margin Income StatementFor the period ending December 31, 2011     per unitNo. of units soldTotalSales2808,000 2,240,000 Variable Cost Direct Material100 Direct Labor50 Variable Overhead30 Variable – Selling & Admin10 Total Variable Cost1908,000 1,520,000 Contribution908,000 720,000 Fixed – Overhead 200,000 Fixed – Selling & Admin 100,000 Net Income 420,000     The formula to calculate the break even number of units is fixed cost divided by contribution margin per unit (Garrison et al, 2009).

At a selling price of $250 per unit and direct material cost per unit of $100, the breakeven number of units, are 5,000. If Herrested Company wants to remain at no profit/no loss position, it would at least need to produce 5,000 units which would be exactly enough to cover the associated fixed costs. If direct material cost is increased to $120 per unit, it will reduce the contribution margin per unit from $60 per unit to $40 per unit. As a result, the new breakeven quantity would be 7,500 units.

Following are the computations of breakeven units at both the contribution margin per unit of $60 and $40 respectively:Breakeven units=Fixed Cost / Contribution Margin per unit= 300,000 = 5,000  60   Breakeven units=Fixed Cost / Contribution Margin per unit= 300,000 = 7,500     40  ReferencesGarrison, Ray H., Noreen, Eric W. & Brewer Peter C. (2009).Managerial Accounting. 13th ed. United States: McGraw-Hill/Irwin.