Question

TufStuff, Inc., sells a wide range of drums, bins, boxes, and other containers that are used in the chemical industry. One of the company’s products is a heavy-duty corrosion-resistant metal drum, called the WVD drum, used to store toxic wastes. Production is constrained by the capacity of an automated welding machine that is used to make precision welds. A total of 2,240 hours of welding time is available annually on the machine. Because each drum requires 0.4 hours of welding machine time, annual production is limited to 5,300 drums. At present, the welding machine is used exclusively to make the WVD drums. The accounting department has provided the following financial data concerning the WVD drums:

WVD Drums
Selling price per drum			$	197.00
Cost per drum:
Direct materials	$52.10
Direct labor ($30 per hour)	6.00
Manufacturing overhead	11.70
Selling and administrative expense	32.20			102.00
Margin per drum			$	95.00

Management believes 7,200 WVD drums could be sold each year if the company had sufficient manufacturing capacity. As an alternative to adding another welding machine, management has considered buying additional drums from an outside supplier. Harcor Industries, Inc., a supplier of quality products, would be able to provide up to 4,300 WVD-type drums per year at a price of $174 per drum, which TufStuff would resell to its customers at its normal selling price after appropriate relabeling.

Megan Flores, TufStuff’s production manager, has suggested the company could make better use of the welding machine by manufacturing bike frames, which would require only 0.5 hours of welding machine time per frame and yet sell for far more than the drums. Megan believes that TufStuff could sell up to 1,840 bike frames per year to bike manufacturers at a price of $299 each. The accounting department has provided the following data concerning the proposed new product:

Bike Frames
Selling price per frame			$	299.00
Cost per frame:
Direct materials	$106.60
Direct labor ($18 per hour)	48.00
Manufacturing overhead	48.00
Selling and administrative expense	57.40			260.00
Margin per frame			$	39.00

The bike frames could be produced with existing equipment and personnel. Manufacturing overhead is allocated to products on the basis of direct labor-hours. Most of the manufacturing overhead consists of fixed common costs such as rent on the factory building, but some of it is variable. The variable manufacturing overhead has been estimated at $1.35 per WVD drum and $1.90 per bike frame. The variable manufacturing overhead cost would not be incurred on drums acquired from the outside supplier.

Selling and administrative expenses are allocated to products on the basis of revenues. Almost all of the selling and administrative expenses are fixed common costs, but it has been estimated that variable selling and administrative expenses amount to $0.75 per WVD drum whether made or purchased and would be $2.50 per bike frame.

All of the company’s employees—direct and indirect—are paid for full 40.00-hour work weeks and the company has a policy of laying off workers only in major recessions.

As soon as your analysis was shown to the top management team at TufStuff, several managers got into an argument concerning how direct labor costs should be treated when making this decision. One manager argued that direct labor is always treated as a variable cost in textbooks and in practice and has always been considered a variable cost at TufStuff. After all, “direct” means you can directly trace the cost to products. “If direct labor is not a variable cost, what is?” Another manager argued just as strenuously that direct labor should be considered a fixed cost at TufStuff. No one had been laid off in over a decade, and for all practical purposes, everyone at the plant is on a monthly salary. Everyone classified as direct labor works a regular 40.00-hour workweek and overtime has not been necessary since the company adopted Lean Production techniques. Whether the welding machine is used to make drums or frames, the total payroll would be exactly the same. There is enough slack, in the form of idle time, to accommodate any increase in total direct labor time that the bike frames would require.

Required:

1. Would you be comfortable relying on the financial data provided by the accounting department for making decisions related to the WVD drums and bike frames?

2. Compute the contribution margin per unit for [assume direct labor is a fixed cost]

3. Compute the contribution margin per welding hour for [assume direct labor is a fixed cost]

4. Assuming direct labor is a fixed cost:

a. Determine the number of WVD drums (if any) that should be purchased and the number of WVD drums and/or bike frames (if any) that should be manufactured.

b. What is the increase (decrease) in net operating income that would result from this plan over current operations?

5. Compute the contribution margin per unit for [assume direct labor is a variable cost]

6. Compute the contribution margin per welding hour for [assume direct labor is a variable cost]

7. Assuming direct labor is a variable cost:

a. Determine the number of WVD drums (if any) that should be purchased and the number of WVD drums and/or bike frames (if any) that should be manufactured. [Assume direct labor is a variable cost]

b. What is the increase (decrease) in net operating income that would result from this plan over current operations?

1. RUJUILTy ulicul luvui au vuruvic LVL. a. Determine the number of WVD drums (if any) that should be purchased and the number of WVD drums and/or bike frames (if any) that should be manufactured. [Assume direct labor is a variable cost] b. What is the increase (decrease) in net operating income that would result from this plan over current operations? 10 points Complete this question by entering your answers in the tabs below. eBook Req 1 Req 2 Req 3 Req 4A Req 4B Req 5 Req 6 Req 7A Req ZB References Determine the number of WVD drums (if any) that should be purchased and the number of WVD drums and/or bike frames (if any) that should be manufactured. [Assume direct labor is a fixed cost] WVD drums Purchased Manufactured 5,300 4,480 Bike frames < Req3 Req 4B >

2

Compute the contribution margin per unit for [assume direct labor is a fixed cost] (Round your intermediate calculations and final answers to 2 decimal places.)

	Contribution Margin a. Purchased WVD drums per unit b. Manufactured WVD drums $ per unit c. Manufactured bike frames $    per unit

3.

Assuming direct labor is a fixed cost, compute the contribution margin per welding hour for (Round your intermediate calculations and final answers to 2 decimal places.)

	Contribution Margin 1. Manufactured WVD drums $357.00 per hour 2. Manufactured bike frames $376.00 per hour

4B
	Increase (decrease) in net operating income

5

Compute the contribution margin per unit for [assume direct labor is a variable cost] (Do not round intermediate calculations. Round your answers to 2 decimal places.)

	Contribution Margin Purchased WVD drums per unit Manufactured WVD drums per unit Manufactured bike frames per unit

Assuming direct labor is a variable cost, compute the contribution margin per welding hour for (Round your intermediate calculations and final answers to 2 decimal places.)

6

	Contribution Margin Manufactured WVD drums per hour Manufactured bike frames per hour

Determine the number of WVD drums (if any) that should be purchased and the number of WVD drums and/or bike frames (if any) that should be manufactured. [Assume direct labor is a variable cost]

7A

	Purchased Manufactured WVD drums Bike frames

7B

What is the increase (decrease) in net operating income that would result from this plan over current operations? [Assume direct labor is a variable cost] (Do not round intermediate calculations.)

	Increase (decrease) in net operating income

Answer 1

Dear Student,

As per the HOMEWORKLIB POLICY, only the first four questions should be answered. Kindly take note of it.

Part 1

Answer is NO

The product margins computed by the accounting department for the drums and bike frames should not be used in the decision of whether to produce WVD drums or bike frames. Due to the presence of allocated fixed common costs, the product margins are lower than they should be so they are irrelevant in this decision. Moreover, the profitability of the two products in relation to the amount of the constrained resource-welding time, should also be considered. In nutshell, the financial data offered by the accounting department does not seem to be important for making this decision.

Part 2

Part 2

assuming direct labor is fixed

		manufactured
	Purchased WVD drums	WVD drums	Bike frames
Selling price	197	197	299
Variable costs:
Direct materials	174	52.10	106.60
Variable manufacturing overhead	0	1.35	1.90
Variable selling and administrative	0.75	0.75	2.50
Total variable cost	174.75	54.20	111.00
Contribution margin	$22.25	$142.80	$188.00

PART 3

	manufactured
	WVD drums	Bike frames
Contribution margin	$142.80	$188.00
Welding hours per unit	0.4	0.5
Contribution margin per welding hour	$357.00	$376

Part 4 a

Bike frames manufactured = 1840

WVD Drums manufactured = 3300

WVD Drums purchased = 3900

Part 4 B

Increase in net operating income = $147095.00

	Quantity (A)	Unit Contri-bution Margin (B)	Welding Time per Unit (C)	Total Welding Time (AXC)	Balance of Welding Time	Total Contri-bution (AXB)
Total hours available					2240
Bike frames produced	1840	188.00	0.5	920	1320	345920.00
WVD Drums—make	3300	142.80	0.4	1280	0	471240.00
WVD Drums—buy (7200-3300)	3900	22.25				86775.00
Total contribution margin						903935.00
Less: Contribution margin from present operations: 5300 drums × $142.80 CM per drum						756840.00
Increased contribution margin and net operating income						$147095.00

Quantity of WDV drums = (total welding time – welding time for bike framses)/welding time per unit of WDV drums = (2420-1010)/0.40 =3525

Part 5

		manufactured
	Purchased WVD drums	WVD drums	Bike frames
Selling price	197	197	299
Variable costs:
Direct materials	174	52.10	106.60
Direct labor		6.00	48
Variable manufacturing overhead	0	1.35	1.90
Variable selling and administrative	0.75	0.75	2.50
Total variable cost	174.75	60.20	159.00
Contribution margin	$22.25	$136.80	$140.00