Question

Exercise 9-31 (Static) Reported Costs and Decisions (LO 9-1)

McNulty, Inc., produces desks and chairs. A new CFO has just been hired and announces a new policy that if a product cannot earn a margin of at least 20 percent, it will be dropped. The margin is computed as product gross profit divided by reported product cost.

Manufacturing overhead for year 1 totaled $800,000. Overhead is allocated to products based on direct labor cost. Data for year 1 show the following.

	Chairs			Desks
Sales revenue	$	1,150,000		$	2,105,000
Direct materials		584,000			800,000
Direct labor		160,000			340,000

Required:

a-1. Based on the CFO's new policy, calculate the profit margin for both chairs and desks.

a-2. Which of the two products should be dropped?

b. Regardless of your answer in requirement (a), the CFO decides at the beginning of year 2 to drop the chair product. The company cost analyst estimates that overhead without the chair line will be $650,000. The revenue and costs for desks are expected to be the same as last year. What is the estimated margin for desks in

Answer 1

В Chair $1,150,000 Desk $2,105,000 A 1 a-1) 2 Particulars 3 Sales revenue 4 Costs: 5 Direct materials 6 Direct labor 7 Overhead allocated 8 Total costs 9 Gross Profit 10 Profit margin 11 12 a-2) 13 As chairs gives less profit margin 14 $584,000 $160,000 $256,000 $1,000,000 $150,000 15.00% $800,000 $340,000 $544,000 $1,684,000 $421,000 25.00%

B Desk $2,105,000 A 1 b) 2 Particulars 3 Sales revenue 4 Costs: 5 Direct materials 6 Direct labor 7 Overhead allocated 8 Total costs 9 Gross Profit 10 Profit margin $800,000 $340,000 $650,000 $1,790,000 $315,000 17.60% 17