Traditional and Contribution Format Income Statements Marwick\'s Pianos, Inc., p

Question

Traditional and Contribution Format Income Statements Marwick's Pianos, Inc., purchases pianos from a large manufacturer for an average cost of $2,450 per unit and then sells them to retail customers for an average price of $3,125 each. The company's selling and administrative costs for a typical month are presented below: Costs Selling: Advertising Sales salaries and commissions Delivery of pianos to customers Utilities Depreciation of sales facilities Cost Formula $700 per month $950 per month, plus 8% of sales $30 per piano sold $350 per month $800 per month Executive salaries Insurance Clerical Depreciation of office equipment $2,500 per month $400 per month $1,000 per month, plus $20 per piano solo $300 per month During August, Marwick's Pianos, Inc., sold and delivered 40 pianos 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?

Explanation / Answer

It is misleading to show fixed costs on a per unit basis because fixed costs does not change with change of units but it remains constsant in totality.

Fixed costs remain constant in total but vary on a per unit basis inversely with changes in the activity level. As the activity level increases, for example, the fixed costs will decrease on a per unit basis. Showing fixed costs on a per unit basis on the income statement might mislead management into thinking that fixed costs behave in the same way as the variable costs. That is, management might be misled into thinking that the per unit fixed costs would be the same regardless of how many pianos were sold during the month.For this reason, fixed costs generally are shown only in totals on a contribution format income statement.

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