Salem Telephone Company

1. "Revenue hours" represent the key activity that drives costs at Salem Data Services. Which expenses in Exhibit 2 are variable with respect to revenue hours? Which expenses are fixed with respect to revenue hours?

Variable Fixed

Rent

Power Custodial

Ops Hourly Wages Computer Leases

Sales Promotion Maintenance

Corporate Services Depreciation (computers)

2. For each expense that is variable with respect to revenue hours, calculate the cost per revenue hour.

Revenue Hours: January: February: March:

Intra-Company 206 181 223

Commercial 123 135 138

Ttl Revenue Hours 329 316 361

Variable Expenses:

Power 1546 1485 1697

Ops- Hourly 7896 7584 8664

Corp. Services 15,424 15,359 15,236

Ttl. Variable Exp. 24,866 24,428 25,597

Cost per revenue hours = Variable Expenses / Total revenue hours

Power per revenue hours = Power / Total revenue hours

Operations: hourly personnel per revenue hours = Operations: hourly personnel / Total revenue hours

Corporate services per revenue hours = Corporate services / Total revenue hours

Cost per Rev. Hr.: January: February: March:

Power 4.70 4.70 4.70

Ops- Hourly 24.00 24.00 24.00

Corp. Services 46.88 48.60 42.20

Ttl Cost per Rev Hr 75.58 77.30 70.91

3. Create a contribution margin income statement for Salem Data Services. Assume that intra-company usage is 205 hours. Assume commercial usage is at the March level.

Assumptions:

We used variable costs per revenue hours at the March level to calculate variable costs as shown in question 2.

We used Sales promotion at the March level.

Selling Price Revenue Hours

Intra-company 400 205

Commercial 800 138

Total Revenue Hours 343

Total Revenue = (Intracompany SP x Intracompany revenue hours) + (Commercial SP x Commercial revenue hours)

Total Variable Costs = (Power cost per revenue hour x Total revenue hours) +(Operations: hourly personnel cost per revenue hour x Total revenue hours) + (Corporate services cost per revenue hour x Total revenue hours)

Total Fixed Costs = Space costs + Equipment costs + Wages and salaries + Sales promotion

Contribution Margin = Total revenue - Total Variable Costs

Operating Income = Contribution Margin - Total Fixed Costs

Contribution Margin Income Statement

Revenue-

Intracompany 82,000

Commercial 110,400

Total revenue 192,400

Variable Costs-

Power 1,612

Operations: hourly personnel 8,232

Corporate services 14,476

Total variable costs 24,321

Contribution margin 168,079

Fixed Costs-

Space costs:

Rent 8,000

Custodial services 1,240

9,240

Equipment Costs-

Computer leases 95,000

Maintenance 5,400

Depreciation:

Computer equipment 25,500

Office equipment and fixtures 680

126,580

Wages and Salaries-

Operations: salaried staff 21,600

Systems development and maintenance 12,000

Administration 9,000

Sales 11,200

53,800

Sales promotion 8,083

Total fixed costs 197,703

Operating income (29,624)

4. Assuming the intra-company demand for service will average 205 hours per month, what level of commercial revenue hours of computer use would be necessary to break even each month?

Since the intra-company demand is known to be 205 hours, the contribution from these sales is assured to cover a portion of the fixed costs. Thus, to determine the level of commercial revenue hours required to break even, the contribution from commercial sales only needs to cover the fixed costs remaining after subtracting the fixed costs already covered by the contribution from intra-company sales.

Break-Even Point = Fixed Expense / Weighted-average Unit Contribution Margin

= Fixed Expense / (Selling Price - Unit Variable Cost)

Selling Price-

Intra-company Usage= 400

Commercial Usage= 800

January: