Question

Problem 6-30A Comprehensive problem including special order, outsourcing, and segment elimination decisions LO 6-2, 6-3, 6-4

Finch Corporation makes and sells state-of-the-art electronics products. One of its segments produces The Math Machine, an inexpensive calculator. The company’s chief accountant recently prepared the following income statement showing annual revenues and expenses associated with the segment’s operating activities. The relevant range for the production and sale of the calculators is between 34,000 and 70,000 units per year.

Revenue (38,000 units × $10)	$	380,000
Unit-level variable costs
Materials cost (38,000 × $3)		(114,000	)
Labor cost (38,000 × $2)		(76,000	)
Manufacturing overhead (38,000 × $0.20)		(7,600	)
Shipping and handling (38,000 × $0.31)		(11,780	)
Sales commissions (38,000 × $1)		(38,000	)
Contribution margin		132,620
Fixed expenses
Advertising costs		(26,000	)
Salary of production supervisor		(66,000	)
Allocated company wide facility-level expenses		(79,000	)
Net loss	$	(38,380	)

Required

1. a. A large discount store has approached the owner of Finch about buying 8,000 calculators. It would replace The Math Machine’s label with its own logo to avoid affecting Finch’s existing customers. Because the offer was made directly to the owner, no sales commissions on the transaction would be involved, but the discount store is willing to pay only $5.60 per calculator. Calculate the contribution margin from the special order. Based on quantitative factors alone, should Finch accept the special order?

2. b-1. Finch has an opportunity to buy the 38,000 calculators it currently makes from a reliable competing manufacturer for $6.30 each. The product meets Finch’s quality standards. Finch could continue to use its own logo, advertising program, and sales force to distribute the products. Should Finch buy the calculators or continue to make them?

3. b-2. Calculate the total cost for Finch to make and buy the 38,000 calculators.

4. b-3. Should Finch buy the calculators or continue to make them, if the volume of sales were increased to 70,000 units?

5. c. Because the calculator division is currently operating at a loss, should it be eliminated from the company’s operations? Support your answer with appropriate computations. Specifically, by what amount would the segment’s elimination increase or decrease profitability?

Answer 1

a. Contribution margin from special order: $720

Sales (8000 x $5.60)	44800
Less unit-level variable costs:
Materials cost (8000 x $3)	24000
Labor cost (8000 x $2)	16000
Manufacturing overhead (8000 x $0.20)	1600
Shipping and handling (8000 x $0.31)	2480
Contribution margin $	720

Yes, Finch should accept the special order since it generates a contribution margin of $720.

b-1. Buy

b-2.

	Make	Buy
Materials cost	114000	0
Labor cost	76000	0
Manufacturing overhead	7600	0
Shipping and handling	11780	11780
Sales commissions	38000	38000
Advertising costs	26000	26000
Salary of production supervisor	66000	0
Allocated company wide facility-level expenses	79000	79000
Purchase price (38000 x $6.30)	0	239400
Total cost $	418380	394180

b-3. Make

	Make	Buy
Materials cost (70000 x $3)	210000	0
Labor cost (70000 x $2)	140000	0
Manufacturing overhead (70000 x $0.20)	14000	0
Shipping and handling (70000 x $0.31)	21700	21700
Sales commissions (70000 x $1)	70000	70000
Advertising costs	26000	26000
Salary of production supervisor	66000	0
Allocated company wide facility-level expenses	79000	79000
Purchase price (70000 x $6.30)	0	441000
Total cost $	626700	637700

c. No, the calculator division should not be eliminated since the segment's elimination would decrease profitability by $40620.

	Continue	Discontinue	Increase (decrease) in net income
Contribution margin	132620	0	-132620
Fixed expenses:
Advertising costs	26000	0	26000
Salary of production supervisor	66000	0	66000
Allocated company wide facility-level expenses	79000	79000	0
Total $	-38380	-79000	-40620