Question

Come-Clean Corporation produces a variety of cleaning compounds and solutions for both industrial and household use. While most of its products are processed independently, a few are related, such as the company's Grit 337 and its Sparkle silver polish. Grit 337 is a coarse cleaning powder with many industrial uses. It costs $1.20 a pound to make, and it has a selling price of $7.20 a pound. A small portion of the annual production of Grit 337 is retained in the factory for further processing. It is combined with several other ingredients to form a paste that is marketed as Sparkle silver polish. The silver polish sells for $5.00 per jar. This further processing requires one-fourth pound of Grit 337 per jar of silver polish. The additional direct variable costs involved in the processing of a jar of silver polish are: Other ingredients Direct labor Total direct cost $0.55 1.44 $1.99 Overhead costs associated with processing the silver polish are: Variable manufacturing overhead 25% of direct labor cost -cost Fixed manufacturing overhead cost (per month) Production supervisor $3,400 Depreciation of mixing equipment $1,500 The production supervisor has no duties other than to oversee production of the silver polish. The mixing equipment is special-purpose equipment acquired specifically to produce the silver polish. It can produce up to 7,000 jars of polish per month. Its resale value is negligible and it does not wear out through use. Advertising costs for the silver polish total $2,600 per month. Variable selling costs associated with the silver polish are 5% of sales. Due to a recent decline in the demand for silver polish, the company is wondering whether its continued production is advisable. The sales manager feels that it would be more profitable to sell all of the Grit 337 as a cleaning powder. Required: 1. How much incremental revenue does the company earn per jar of polish by further processing Grit 337 rather than selling it as a cleaning powder? (Round your answer to 2 decimal places.) 2. How much incremental contribution margin does the company earn per jar of polish by further processing Grit 337 rather than selling it as a cleaning powder? (Round your intermediate calculations and final answer to 2 decimal places.) 3. How many jars of silver polish must be sold each month to exactly offset the avoidable fixed costs incurred to produce and sell the polish? (Round your intermediate calculations to 2 decimal places.) 4. If the company sells 8,400 jars of polish, what is the financial advantage (disadvantage) of choosing to further process Grit 337 rather than selling is as a cleaning powder? (Enter any disadvantages" as a negative value. Round your intermediate calculations to 2 decimal places.) 5. If the company sells 11,200 jars of polish, what is the financial advantage (disadvantage) of choosing to further process Grit 337 rather than selling is as a cleaning powder? (Enter any "disadvantages" as a negative value. Round your intermediate calculations to 2 decimal places.) per jar per jar 1. Incremental revenue Incremental contribution margin 3 Number of jars that must be sold Financial advantage (disadvantage) Financial advantage (disadvantage) per month

Answer 1

Solution

Come-Clean Corporation

1	Incremental Revenue	$3.20	per jar
2	Incremental Contribution Margin	$0.60	per jar
3	Number of Jars that must be sold	8,167	per month
4	Financial advantage (disadvantage)	$16,520
5	Financial advantage (disadvantage)	$23,660

1. Determination of incremental contribution margin per jar from further processing of Grit 337 into silver polish:

contribution margin of Grit 337:
Selling price	$7.20	per pound
production costs	$1.20	per pound
Contribution margin per pound	$6.00
Incremental contribution margin -
selling price of silver polish per jar	$5.00
selling price of 1/4th pound of Grit 337	$1.80	(7.20 x ¼)
Incremental revenue per jar of silver polish	$3.20
Incremental variable cost per jar of silver polish:
other ingredients	$0.55
Direct labor	$1.44
variable overhead	$0.36	(25% of 1.44)
variable selling costs	$0.25	(5% of $5)
Total	$2.60
Incremental contribution margin = $3.20 - $2.60 = $0.60

Note:

1. One fourth pound of Grit 377 is used in the production of one jar of silver polish.

Hence, the selling price of 1/4^th pound of Grit 337 used in silver polish = 7.20 x ¼ = $1.80

2. The variable production cost of Grit 337 ($1.20) is not relevant as the cost is incurred regardless of whether the powder is further processed or not.

Determination of the minimum number of jars of silver polish that must be sold each month to justify the continued processing of Grit 337 into silver polish:

Relevant costs associated with the production of silver polish are,

Production supervisor                         $3,400

Depreciation mixing department        $1,500

Avoidable fixed costs                         $4,900

Minimum Number of jars of silver jar to be produced = avoidable fixed costs/incremental contribution margin

            = $4,900/$0.60 = 8,167 jars

Further processing of Grit 337 into silver polish is suggested if the company is able to sell more than 8,167 jars of silver polish. However if the company sales level falls beyond 8,167 jars, the company can opt to sell Grit 337 without further processing.

4&5.

	8,400 Jars of Polish	11,200 Jars of Polish	8,167 jars of polish
	2,100 pounds of Grit	2,800 pounds of Grit	2,042 pounds of Grit
sales of silver polish at $5 per jar	$42,000	$56,000	$40,835
variable expenses:	$
Production of grit at $1.20 per pound	$2,520	$3,360	$2,450
Further processing into silver polish at $2.60	$5,460	$7,280	$5,309
total variable costs	$7,980	$10,640	$7,760
Contribution margin	$34,020	$45,360	$33,075
Avoidable fixed costs;
production supervisor	$3,400	$3,400	$3,400
Depreciation on mixing department	$1,500	$1,500	$1,500
Total avoidable fixed cost	$4,900	$4,900	$4,900
total contribution to common fixed costs and to profits	$29,120	$40,460	$28,175
Sales of grit 337 at $7.20 per pound	$15,120	$20,160	$14,702
variable production cost of $1.20 per pound	$2,520	$3,360	$2,450
Contribution to common fixed expenses and net profit	$12,600	$16,800	$12,252
financial advantage of further processing grit 337	$16,520	$23,660	$15,923