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Friday, April 22, 2011

Indirect Expense Allocation, a "What If Scenario" Problem Analysis and Solution

Situation and Instructions are at the end of this page....

As based on Silver Coat Tourism Resort's Income and Expenditure Statement, a What-If Analysis was drawn. After studying the statement, the What-If analysis was administered by formulation of 2 case scenarios. The scenarios would concentrate on the Planned Direct expenses wherein different values would be assigned to this item and how the Net Profit Income of each profit generating centre would be affected. A comparison of the original planned expenses to the two case scenarios would be made as well as show the different net ncomes that they will actually provide. Table 1 is presented below:

Original Planned


Case Scenario 1

Case Scenario 2

























Net Income




Table 1. Table showing Original Planned Expenses, Case Scenario 1 and 2 assigned expenses as well as Net Income yield of each category

As shown in Table 1, Case Scenario 1 was assigned higher planned expenses as compared to the original planned expenses. In comparison of both the values presented, it clearly shows that higher planned expenses would translate to lower net income. Therefore, when Case Scenario 1 is considered, it will result to a lesser net income since comparing it's net income value to the original planned expenses column will result to a decrease of $106,200.00.

Case Scenario 2 as a different approach, assigns values in a different manner. Some expenses were increased and other expense categories were decreased. This resulted to an increase in net income of $ 13, 500.00 which is equivalent to approximately 2%. Therefore, knowing which expenses to minimize and which ones to increase will definitely result to higher net income.

In conclusion, when a company puts effort on how to somehow minimize their indirect expenses it will definitely result to increase in net income. The company must employ the best means of decreasing their expenses in order for them to yield a higher profit.

Business Value of the Excel Workbook

The excel workbook is a tool that will help financial planners since it can help gauge the overall financial performance of a business when being faced with various modifiable constraints. The values placed on Planned Indirect Expenses are considered the modifiable variables. The indirect/operating expenses can be manipulated while keeping constant the Net Income, Cost of Sales and Direct Expenses. This way, the business can weigh the effects of the changes made in indirect expenses and they can work on ways on how these expenses be mnimized. In effect, the company profit is maximized. With the excel woorkbook, financial planners can determine the expense which should be monitored closely, which ones are to be minimized, how to effectively do it and what are the best expense allocation expense technics to be employed that will give positive results.

What-If Analysis: Memo of Indirect Expense Allocations

As requested, a What-If Analysis has been done on Silver Coat Tourism Resort’s Income and Expenditure Statement. This was implemented by formulating two (2) case scenarios where different values were assigned to its Planned Indirect Expenses and analyzing how it affected the Net Profit Income of each profit centre. Table 1 below shows the original planned expenses and the two case scenarios side-by-side together with the actual net income each situation will essentially yield.

Original Planned Expenses Case Scenario 1 Case Scenario 2
Administration $72,500.00 $110,000.00 $52,000.00
Depreciation $61,250.00 $86,500.00 $63,000.00
Energy $46,000.00 $48,750.00 $31,500.00
Insurance $12,500.00 $32,450.00 $22,500.00
Maintenance $26,000.00 $38,000.00 $28,000.00
Marketing $52,250.00 $61,000.00 $60,000.00
Net Income $650,910.00 $544,710.00 $664,410.00

Table 1
Comparing the Original Expenses to Case #1, all planned expenses were made to be higher. Its effect is that the larger the planned expenses are, the smaller the net income will be. A net income of $106,200.00 will be lost if scenario 1 will be adopted.
Case Scenario 2, on the other hand, played well with expenses. Some were given a higher value from the original and some were given a smaller value. The result of this was that net income rose by $13,500.00 or approximately 2% from the original.
Like in any company, the bottom-line rule here is to minimize indirect expenses as much as possible in order to maximize net profit.

Business Value of the Excel Workbook
The excel workbook is a simple indirect expense allocation tool created to help foresee a business’ financial performance given a set of modifiable constraints. In this tool, the only modifiable variables are what you place on planned indirect expenses. Net Income, Cost of Sales and Direct Expenses are assumed to be constant while you play around with indirect/operating expenses. This can allow businesses to make mitigation plans to maximize their end profit. Such questions like (1) what expense type should closely be monitored, (2) where to cut cost, (3) how to effectively minimize unnecessary expenses and (4) what feasible expense allocation can yield the best results, are things that this workbook can help financial planners to answer.

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