Question

Problem 12-18 Relevant Cost Analysis in a variety of Situations [LO12-2, LO12-3, LO12-4] Andretti Company has a single product called a Dak. The company normally produces and sells 87,000 Daks each year at a selling price of $56 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 $ 8.50 11.00 2.60 4.00 ($348,000 total) 2.70 2.50 ($217,500 total) $ 31.30 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 117,450 Daks each year without any increase in fixed manufacturing overhead costs. The company could increase its unit sales by 35% above the present 87,000 units each year if it were willing to increase the fixed selling expenses by $110,000. What is the financial advantage (disadvantage) of investing an additional $110,000 in fixed selling expenses? 1-b. Would the additional investment be justified? 2. Assume again that Andretti Company has sufficient capacity to produce 117,450 Daks each year. A customer in a foreign market wants to purchase 30,450 Daks. If Andretti accepts this order it would have to pay import duties on the Daks of $2.70 per unit and an additional $24,360 for permits and licenses. The only selling costs that would be associated with the order would be $2.00 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? c. What is the financial advantage (disadvantage) of closing the plant for the two-month period? d. Should Andretti close the plant for two months? 5. An outside manufacturer has offered to produce 87,000 Daks and ship them directly to Andretti's customers. If Andretti Company accepts this offer, the facilities that it uses to produce Daks would be idle; however, fixed manufacturing overhead costs would be reduced by 30%. Because the outside manufacturer would pay for all shipping costs, the variable selling expenses would be only two- thirds of their present amount. What is Andretti's avoidable cost per unit that it should compare to the price quoted by the outside manufacturer?

Answer 1

Requirement 1(a) We need to compare the Contribution receivable on the additional units produced and compare it with the additional cost to be incuured in selling to decide whether we should increase our sales or not Amount 56.00 8.50 11.00 2.60 Particulars Sale Price Less. Direct Material Cost Less. Direct Labour Less. Variable Manufacturing Overheads Less. Variable Selling Expenses Contribution Additional Units Produced Additional Profit before Selling Expenses Less. Selling Expenses Net Addition into Profits 2.70 31.20 30,450 9,50,040 1,10,000 8,40,040 Requirement 1(b) Yes, Investing Additional Fixed Selling Expenses are worthwhile Requirement 2 Particulars Direct Material Cost Direct Labour Variable Manufacturing Overheads Import Duties Permits & License Selling Costs Total Cost Break even Price p.u. Cost 8.50 11.00 2.60 2.70 Units 30,450 30,450 30,450 30,450 Total 2,58,825 3,34,950 79,170 82,215 24,360 60,900 8,40,420 27.60 2.00 30,450 Requirement 3 Particulars Direct Material Cost Direct Labour Variable Manufacturing Overheads Minimum Selling Expenses Cost 8.50 11.00 2.60 22.10 We havn't considered Variable Selling Overheads in the above computation of Minimum Selling Price, as these 500 Daks are impossible to sell. Requirement 4 Alternative 1 : Continue Plan at 25% of Normal Levels for Two Month Period Normal Units Produced in Two Months =87000*2/12 14500 At 25% Level 3625 Alternative 2: Shut Down Plant Fixed Manufacturing Overhead costs continue to 35% of normal level during the two- month period and Fixed Selling Expenses would be reduced by 20% during the two-month period (a) Total Contribution Margin will Andretti forgo if it closes the plant for two months Sales 56.00 Total Cost 31.50 Contribution per unit 24.50 Units could have produced 3625 Contribution (Total) 88813 (b) How much Total Fixed Cost will the company avoid if it closes the plant for two months Fixed Maufacturing Overheads 348000 Fixed Selling Expenses 217500 Total Fixed Cost 565500 Allocable for Two Month Period =565500*2/12 94250 Avoidable @65% 61263 © What is the Financial Advantage (Disadvantage) for closing the plant for two months period Savings in Fixed Cost 61263.00 Contribution Lost 88813.00 Financial Advantage (Disadvantage) -27550.00 (d) Should Adretti Close the plant ? No, Justification is above mentioned Requirement 5 Adretti Avoidable Cost per unit Fixed Manufacturing Overhead Costs Variable Selling Expenses 1.20 =348000*30% =87000*2.7*1/3 104400 78300 87000 87000 0.90 2.10 $2.10 is the avoidable cost that is to be considered