Question

Andretti Company has a single product called a Dak. The company normally produces and sells 85,000 Daks each year at a selling price of $64 per unit. The company's unit costs at this level of activity are given below: Direct materials Direct labor Variable manufacturing overhead Fixed manufacturing overhead Variable selling expenses Fixed selling expenses Total cost per unit $ 7.50 11.00 3.40 7.00 ($595,000 total) 1.70 3.00 ($255,000 total) $33.60 A number of questions relating to the production and sale of Daks follow. Each question is independent Required: 1-a. Assume that Andretti Company has sufficient capacity to produce 119,000 Daks each year without any increase in fixed manufacturing overhead costs. The company could increase its unit sales by 40% above the present 85,000 units each year if it were willing to increase the fixed selling expenses by $150,000. What is the financial advantage (disadvantage) of investing an additional $150,000 in fixed selling expenses? 1-b. Would the additional investment be justified? 2. Assume again that Andretti Company has sufficient capacity to produce 119,000 Daks each year. A customer in a foreign market wants to purchase 34,000 Daks. If Andretti accepts this order it would have to pay import duties on the Daks of $3.70 per unit and an additional $20,400 for permits and licenses. The only selling costs that would be associated with the order would be $2.70 per unit shipping cost. What is the break-even price per unit on this order? 3. The company has 500 Daks on hand that have some irregularities and are therefore considered to be "seconds. Due to the irregularities, it will be impossible to sell these units at the normal price through regular distribution channels. What is the unit cost figure that is relevant for setting a minimum selling price? 4. Due to a strike in its supplier's plant, Andretti Company is unable to purchase more material for the production of Daks. The strike is expected to last for two months. Andretti Company has enough material on hand to operate at 25% of normal levels for the two-month period. As an alternative, Andretti could close its plant down entirely for the two months. If the plant were closed, fixed manufacturing overhead costs would continue at 35% of their normal level during the two-month period and the fixed selling expenses would be reduced by 20% during the two-month period. a. How much total contribution margin will Andretti forgo if it closes the plant for two months? b. How much total fixed cost will the company avoid if it closes the plant for two months?

Answer 1

64 64 64 -23.6 -23.6 IN CASE OF FOREIGN ORDER OF 34000 UNITS Selling price per unit Variable cost per unit (23.6-1.7+2.7) Import duty (34000*3.7) Contribution per unit -24.6 40.4 UNDER EXISTING SCENARIO Selling price per unit Less: Variable cost per unit (7.5+11+3.4+1.7) Contribution per unit Units Total contribution Less: Fixed expenses (595000+255000) Profit IF UNITS SOLD INCREASE BY 40% Selling price per uni Less: Variable cost per unit Contribution per unit Units (85000+85000*40%) Total contribution Less: Fixed expenses (595000+255000+150000) Profit -3.7 35.7 40.4 85000 34,34,000 -8,50,000 1,19,000 48,07,600 -10,00,000 Permits and licenses (Fixed costs) Fixed manufacturing overheads (7*34000) Total fixed costs 20,400 2,38,000 2,58,400 38,07,600 25,84,000 Break-even point in units (Total fixed costs/Contribution per unit) 12,23,600 7,238 Advantage (3807600-2584000) Considering the impact of additional investment on the profitability, it is justified. Unit cost figure which is relevant for setting a minimum selling price includes unit cost of direct materials, direct labour, variable manufaturing overheads and variable selling expenses.

7,083 14,167 5,72,347 Production units per month (85000/12) Production for two months Loss of contribution (40.4*14167) Avoidable fixed manufacturing overheads (595000*2/12*65%) Avoidable fixed selling expenses (255000*2/12*2095) Total savings in fixed costs 64,458 8,500 72,958 Financial disadvantage 4,99,388 Recommendation: The company should not close down the plant for two months.