Question

Bain 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 30,000 and 60,000 units per year.

Revenue (40,000 units × $10.80)	$	432,000
Unit-level variable costs
Materials cost (40,000 × $2.70)		(108,000	)
Labor cost (40,000 × $1.20)		(48,000	)
Manufacturing overhead (40,000 × $1.20)		(48,000	)
Shipping and handling (40,000 × $0.30)		(12,000	)
Sales commissions (40,000 × $1.20)		(48,000	)
Contribution margin		168,000
Fixed expenses
Advertising costs		(24,000	)
Salary of production supervisor		(72,000	)
Allocated company wide facility-level expenses		(96,000	)
Net loss	$	(24,000	)

Required

a. A large discount store has approached the owner of Bain about buying 5,000 calculators. It would replace The Math Machine’s label with its own logo to avoid affecting Bain’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 $6.60 per calculator. Calculate the contribution margin from the special order. Based on quantitative factors alone, should Bain accept the special order?

b-1. Bain has an opportunity to buy the 40,000 calculators it currently makes from a reliable competing manufacturer for $6.72 each. The product meets Bain’s quality standards. Bain could continue to use its own logo, advertising program, and sales force to distribute the products. Should Bain buy the calculators or continue to make them?

b-2. Calculate the total cost for Bain to make and buy the 40,000 calculators.

b-3. Should Bain buy the calculators or continue to make them, if the volume of sales were increased to 60,000 units?

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

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Part a:
				$
	Revenue	5000*6.6		33000
	Unit Level Variable Cost:
	Material Cost	5000*2.7		-13500
	Labor Cost	5000*1.2		-6000
	Manufacturing Cost	5000*1.2		-6000
	Shipping and Handling	5000*0.3		-1500
	Sales Commission			0
	Contribution Margin			6000
	Should be accepted as it will increase profitability by $6000
			$	$
Part b1&b2:			Cost to Make	Cost to Buy
	Material Cost	40000*2.7	108000
	Labor Cost	40000*1.2	48000
	Manufacturing Cost	40000*1.2	48000
	Prod Supervisor Salary		72000
	Purchase Cost	40000*6.72	0	268800
	Total Cost		276000	268800
	Should purchase from outside as cost is lower than making it
Part b3:			$	$
			Cost to Make	Cost to Buy
	Material Cost	60000*2.7	162000
	Labor Cost	60000*1.2	72000
	Manufacturing Cost	60000*1.2	72000
	Prod Supervisor Salary		72000	72000
	Purchase Cost	60000*6.72	0	403200
	Total Cost		378000	475200
	Should make in house as cost is lower
Part c:	It should not be eliminated.
	Elimination will decrease profitability by $72000 which is being allocated company wide facility exp.
	Before Allocation, actual profit is (168000-24000-72000)=$72000
	Loss is because of allocation of facility expenese, which will be allocated on other segment.