Question

90) Assume a company is considering buying 10,000 units of a component part rather than making them. A supplier has agreed to sell the company 10,000 units for a price of $40 per unit. The company’s accounting system reports the following costs of making the part:

	Per Unit					10,000 Units per Year
Direct materials		$	18				$	180,000
Direct labor			12					120,000
Variable manufacturing overhead			2					20,000
Fixed manufacturing overhead, traceable			8					80,000
Fixed manufacturing overhead, allocated			4					40,000
Total cost		$	44				$	440,000

One-half of the traceable fixed manufacturing overhead relates to supervisory salaries and the remainder relates to depreciation of equipment with no salvage value. If the company chooses to buy this component part from a supplier, then the supervisor who oversees its production would be discharged. If the company begins buying the part from a supplier, it can use freed up capacity to produce and sell 2,400 more units of another product that earns a contribution margin per unit of $7.75. What is the financial advantage (disadvantage) of buying 10,000 units from the supplier?

Multiple Choice

• $(60,000)

• $(21,400)

• $(32,400)

• $(1,400)

93) Assume a retailing company has two departments—Department A and Department B. The company’s most recent contribution format income statement follows:

	Total			Department A					Department B
Sales	$	800,000			$	350,000				$	450,000
Variable expenses		320,000				120,000					200,000
Contribution margin		480,000				230,000					250,000
Fixed expenses		400,000				140,000					260,000
Net operating income (loss)	$	80,000			$	90,000				$	(10,000	)

The company says that $130,000 of the fixed expenses being charged to Department B are sunk costs or allocated costs that will continue if the segment is discontinued. However, if Department B is discontinued the sales in Department A will drop by 8%. What is the financial advantage (disadvantage) of discontinuing Department B?

Multiple Choice

• $(132,000)

• $(136,000)

• $(158,400)

• $(138,400)

99)

Assume that a company manufactures numerous component parts, one of which is called Part A. The company makes 50,000 units of Part A per year and its absorption costing system indicates that, at this volume of production, it costs $23.00 per unit to make this part:

Direct materials	$	10.00
Direct labor		6.00
Variable overhead		2.00
Fixed overhead		5.00
Total absorption cost per unit	$	23.00

The company is trying to decide between two alternatives:

Alternative 1: Continue making 50,000 units of Part A annually using its existing equipment at the unit cost shown above. The equipment used to make this part does not wear out through use and it has no resale value.

Alternative 2: Purchase 50,000 units of Part A from a supplier at a cost of $19.01 per unit.

If the company chooses alternative 2, it believes that $180,000 of the fixed manufacturing overhead cost being allocated to Part A will continue to be incurred. What is the financial advantage or (disadvantage) of buying the parts from a supplier?

Multiple Choice

• $19,500

• $(19,500)

• $130,000

• $(130,000)

Answer 1

Case 1: Answer
Step 1:	Financial advantage calculated based on the difference between the contribution and expenses of specific project or bid.
	Here, total direct material cost $180,000, direct labour $120,000, overhead expenses $20,000, fixed tracable overhead $80,000 and allocated fixed overhead is $40,000
Step 2:	It is said 10,000 units can be bought at $40 per unit. Therefore, total purchase cost will be 10,000 units x $40 = $400,000
	If the company chooses to buy goods from this supplier, then supervisor salary will be dischared. It is said, supervisor salary is about half of the fixed tracable overhead.
	Therefore, supervisor salary that saved by company should be $80,000/2 = $40,000,
Step 3:	If company begins buying parts from supplier then, it increases additional production of 2,400 units of another product which earns contribution of $7.75
	Therefore, additional contribution made would be 2,400 units x $7.75= $18,600
Step 4:	Therefore, financial disadvantage of buying goods from this supplier should be the difference of contribution and cost saved
	Cost saved on supervisor salary is $(40,000) and additional contribution made is $18,600
	Since cost weighs more than contribution, it results in financial disadvantage of $(40,000) - $18,600 = $(21,400)
	Therefore, option B $(21,400) is the correct answer.
Step 5:	Why other option are incorrect
	a) $60,000 - We haven't derived this amount during calculations.
	c) $32,400 - We haven't derived this amount during calculations.
	d) $(1,400) - We haven't derived this amount during calculations.

Case 2: Answer
Step 1:	Financial advantage calculated based on the difference between the contribution and expenses of specific project or bid.
Step 2:	If company chooses to discontinue department B, still $130,000 sunk cost is incurred
	Also, sales of department A will drop by 8%. Current sales from department A is $350,000, 8% of $350,000 is $28,000.
	Therefore, sales of $28,000 would reduce which results in total sales of $350,000 - $28,000 = $322,000
Step 3:	For department A, sales falls by 8%, but both variable expenses $120,000 and fixed expenses $140,000 remains same.
	Also, sunk cost of $130,000 should be included to derive net profit.
	Therefore, new net profit or income of department A should be;
		Amount ($)
	Sales	322,000.00
	Variable expenses	(120,000.00)
	Contribution margin	202,000.00
	Fixed expenses	(140,000.00)
	Sunk cost	(130,000.00)
	Net operating income	(68,000.00)
Step 4:	Financial advantage should be the difference of current operating income and previous total operating income
	Therefore, the financial advantage should be $(68,000)-($80,000) = $ (148,000)
	I apologize that I haven't got the answer provided from the available option.

Case 3: Answer
Step 1:	Financial advantage calculated based on the difference between the contribution and expenses of specific project or bid.
	It has specified that total cost will be $23 if company continues to make 50,000 units.
	Alternatively, if goods are purchased from supplier then cost will be $19.01 per unit.
Step 2:	If company continues to manufacture goods then total cost will be $23 x 50,000 units= $1,150,000
	If company purchase from supplier then total cost will be $19.01 x 50,000 units = $950,500
	Therefore, the cost saved if goods are purchased would be $1,150,000 - $ 950,500 = $199,500
Step 3:	Even if company choose alternative 2, still it incur manufacturing overhead $180,000
	Therefore, financial advantage of the compny if goods are purchased should be $199,500-$180,000 = $19,500
	Therefore, correct answer is option A $19,500
Step 4:	Why other options are incorrect
	b) $(19,500) - We haven't derived this amount during calculations.
	c) $130,000 - We haven't derived this amount during calculations.
	d) $(130,000) - We haven't derived this amount during calculations.