Question

Birch Company normally produces and sells 48,000 units of RG-6 each month. The selling price is $30 per unit, variable costs are $10 per unit, fixed manufacturing overhead costs total $200,000 per month, and fixed selling costs total $48,000 per month. Employment-contract strikes in the companies that purchase the bulk of the RG-6 units have caused Birch Company's sales to temporarily drop to only 12,000 units per month. Birch Company estimates that the strikes will last for two months, after which time sales of RG-6 should return to normal. Due to the current low level of sales, Birch Company is thinking about closing down its own plant during the strike, which would reduce its fixed manufacturing overhead costs by $49,000 per month and its fixed selling costs by 10%. Start-up costs at the end of the shutdown period would total $13,000. Because Birch Company uses Lean Production methods, no inventories are on hand. Required: 1. What is the financial advantage (disadvantage) if Birch closes its own plant for two months? 2. Should Birch close the plant for two months? 3. At what level of unit sales for the two-month period would Birch Company be indifferent between closing the plant or keeping it open?

Answer 1

	continue	stop production	differential
Sale revenue (12,000*$30*2)	$720,000	nil	($720,000)
less:
variable costs (12,000*$10*2months)	($240,000)	nil	$240,000
contribution	$480,000	nil	($480,000)
less:
fixed manufacturing overhead (200,000*2) (200,000-49,000)*2	($400,000)	($302,000)	$98,000
fixed selling cost (48,000*2) , (48,000*(1-0.10)*2)	($96,000)	($86,400)	$9,600
shut down cost	nil	($13,000)	($13,000)
net income / (loss)	($16,000)	($401,400)	($385,400)

1. Financial Disadvntage if Birch closes down plant for two months = ($385,400).

2. Birch should not close the plant , since there is financial disadvantage of $385,400.

3. indifference point for two month period = (two month fixed cost - loss from shut down) / (contribution per unit)

=> [($200,000+48,000) * 2] - $401,400] / ($30-$10)

=>4,730 units.

At a sales level of 4,730 units for two months Birch company would be indifferent between closing the plant or keeping it open.