Question

The Rosa model of Mohave Corp. is currently manufactured as a very plain umbrella with no decoration. The company is considering changing this product to a much more decorative model by adding a silk-screened design and embellishments. A summary of the expected costs and revenues for Mohave's two options follows: Rosa Umbrella 12,000 units $ 10.00 Decorated Umbrella 12,000 units $ 21.00 $ Estimated demand Estimated sales price Estimated manufacturing cost per unit Direct materials Direct labor Variable manufacturing overhead Fixed manufacturing overhead Unit manufacturing cost Additional development cost 4.50 1.50 0.50 2.00 8.50 $ 6.50 4.00 2.50 2.00 $ 15.00 $12,000 $ Required: 1. Determine the increase or decrease in profit if Mohave sells the Rosa Umbrella with the additional decorations. Rosa Umbrella Decorated Umbrella Incremental Sales Revenue Variable Costs Contribution Margin Additional Development Costs Differential Profit (Loss) 2. Should Mohave add decorations to the Rosa umbrella? No Yes 3-a. Suppose that the higher price of the decorated umbrella is expected to reduce estimated demand for this product to 10,000 units. Determine the Increase or decrease in profit if Mohave sells the Rosa Umbrella with the additional decorations. Rosa Umbrella Decorated Umbrella Incremental Sales Revenue Variable Costs Contribution Margin Additional Development Costs Differential Profit (Loss) 3-b. Should Mohave add decorations to the Rosa umbrella? No Yes

Answer 1

Since fixed costs will remain same under both the alternative, it is irrelvant for this decision
	Rosa	Decorated	Incremental
Sales Revenue	120,000	252,000	132,000
Variable costs	78,000	156,000	78,000
Contribution Margin	42,000	96,000	54,000
Additional Development cost	-	12,000	12,000
Differential profit	42,000	84,000	42,000
Yes
3-a
	Rosa	Decorated	Incremental
Sales Revenue	120,000	210,000	90,000
Variable costs	78,000	130,000	52,000
Contribution Margin	42,000	80,000	38,000
Additional Development cost	-	12,000	12,000
Differential profit	42,000	68,000	26,000

B C D 1 Since fixed costs will remain same under both the alternative, it is irrelvant for this decision 2 3 Sales Revenue 4 Variable costs 5 Contribution Margin 6 Additional Development cost 7 Differential profit Rosa Decorated Incremental =12000*10 =12000*21 =C3-B3 |=(4.5+1.5+0.5)*12000 =(6.5+4+2.5)*12000 |=C4-B4 =B3-B4 =C3-C4 =C5-B5 12000 =C6-B6 =B5-B6 =C5-C6 =C7-B7 8 Rosa 9 Yes 10 11 3-a 12 13 Sales Revenue 14 Variable costs 15 Contribution Margin 16 Additional Development cost 17 Differential profit 10 Decorated = 12000*10 = 10000*21 =(4.5+1.5+0.5)*12000 =(6.5+4+2.5)* 10000 =B13-B14 =C13-C14 12000 =B15-B16 =C15-C16 Incremental =C13-B13 =C14-B14 =C15-B15 =C16-B16 =C17-B17