Question

Phone Company

The Phone Company has the following costs of producing and selling a cell phone assuming it produces and sells the normal volume of 100,000 of these cell phones per month:

Per unit manufacturing cost

            Direct materials                                              $50.00

            Direct labor                                                     10.00

            Variable manufacturing overhead cost             40.00

            Fixed manufacturing overhead cost                 30.00

Per unit selling cost

            Variable                                                          15.00

            Fixed                                                               10.00

Note that 100,000 (normal volume of production and sales) is the denominator used to calculate and allocate fixed costs per unit (regardless of the number of units actually produced). Any under- or over-allocated overhead will be adjusted at the end of the year to COGS. The selling price of a cell phone is $250, unless otherwise stated in the questions below. Variable selling costs are incurred only if (and when) the phones are sold.

Each situation below is independent of the other situations. That is, when you answer one question, assume that the situations described in other questions have not occurred. When you are considering opportunities for increased sales, assume that Phone Company has enough manufacturing and sales capacity to make these sales without incurring additional fixed costs. Ignore tax issues: just think in terms of operating income.

Show calculations on Excel using formulas whenever possible.

Required:

1.The Phone Company has the opportunity to provide an organization with a one-time special order of 20,000 cell phones, in addition to its existing business. The only variable selling cost associated with this order would be shipping costs of $10.00 per cell phone, and fixed selling costs for this order (in addition to Phone Company’s existing fixed costs) would be a lump sum of $200,000. What selling price per unit would be required to generate $600,000 in incremental operating income from this order?

2. The Phone Company plans to introduce a new cell phone in the immediate future and thus it must immediately sell its finished-goods inventory of already produced cell phones (incurring variable selling costs). If this inventory is not sold before the company introduces the new cell phone, then this inventory will have $0 value. What is the minimum price at which Phone Company would sell these phones? That is, if the price is lower than this, the company would be better off disposing of the phones by throwing them out or giving them away (assume that disposal would be costless).

3. The Phone Company has received an offer from a contract supplier to manufacture and ship the Phone Company’s cell phone directly to Phone Company’s customers. If the Phone Company accepts this offer, then it will continue to do product design and marketing but will no longer manufacture the phones itself and its variable manufacturing costs would be $0 and its fixed manufacturing cost would be reduced by 50% of its current level. (Phone Company can dispose of some of its fixed capacity immediately, but will keep some.) In addition, its variable selling cost would decrease by one-third and its fixed selling cost would not change. How much per cell phone could the Phone Company pay the contract supplier if it wants to maintain its present level of operating income?

Answer 1

1)
Variable Cost
Direct materials	20,000	$50	$1,000,000
Direct labor	20,000	$10	$200,000
Manufacturing overhead	20,000	$40	$800,000
Selling costs	20,000	$10	$200,000
Fixed Cost
Manufacturing overhead			-
Selling costs			$200,000
Total Costs			$2,400,000
Add: Required incremental profit			$600,000
Sales Value			$3,000,000
Selling price per unit = Sales / Units sold
Sales Value	$3,000,000
Units Sold	20,000
Selling price per unit	$150
2)
The price at which the phones should be sold should be equal to the
break-even sales price of the phone
at ,Break even sales price
Contribution per unit = Fixed costs per unit
Fixed cost per unit
Fixed Selling expense	$10
Fixed Manufacturing overhead	$30
Total Fixed cost per unit	$40
Hence,desired contribution	$40
Variable cost per unit
Direct materials	$50
Direct labor	$10
Manufacturing overhead	$40
Selling costs	$15
Total Variable cost per unit	$115
Selling Price
= Variable Costs per unit + Contribution per unit
Variable Costs per unit	$115
Contribution per unit	$40
Selling Price per unit	$155
The minimum price at which the phones can sold is $ 155
3)
Selling Price	$250
Variable Costs
Direct materials	$50
Direct labor	$10
Manufacturing overhead	$40
Selling costs	$15
Total Variable Costs	$115
Contribution	$135
Fixed Cost
Manufacturing overhead	$30
Selling costs	$10
Total Fixed Cost	$40
Operating Income	$95
Desired operating income per unit	$95
Fixed overheads
Manufacturing overhead at 50% of current	$15
Selling costs at 2/3 of current	$6.67
Desired Contribution per unit	$117
Selling price per unit	$250
Less: Desired Contribution	$116.67
Price that can be paid to the contract supplier	$133.33
The Phone Company can pay to the contract supplier an amount
equal to $ 133.33 per cell phone if it wants to maintain its present
level of operating income