Question

Blues Traveler Company sells electric razors. The company’s home office is in Princeton, New Jersey. The company was founded in 2005 when John Popper invested $300,000 for 30,000 shares and Chan Kinchla invested $200,000 for 20,000 shares of common stock. The only other financing activities relate to a $500,000 bank loan from 1^st National Bank that accrues interest at six percent per year payable on January 1 each year that has an unpaid balance of $400,000. The loan is due on December 31, 2023.

            The company’s products are designed by engineers at the home office and manufactured in Asia. The company has 2 design engineers who are each paid $110,000 per year; 4 marketing employees who each earn salaries of $40,000 per year; 8 subcontractors who earn $10 per hour to actually build the razors and 6 truck drivers who earn $12 per hour to deliver the razors to the stores where they are sold directly to customers. The owners supervise the manufacturing and sales activities and handle all the administrative tasks but their only compensation is distributions of retained earnings at the end of the year if the company is profitable.

            The Men’s Razor has $5 of raw materials per unit, requires 1.5 direct labor hours per unit and should consume 15,000 annual machine hours and 52,000 annual factory manager hours. The Women’s razor has $7 of raw materials, uses up 2 direct labor hours per unit and should consume 7,500 annual machine hours and 13,000 annual factory manager hours. John estimates $100,875 of indirect manufacturing costs will be incurred and has established the following cost pools and cost drivers and intends to allocate manufacturing overhead using an activity based costing system.

     

Activity	Estimated Costs	Cost Driver	Estimated Cost Driver Required for the Year
Factory Machinery Costs	$61,875	Machine Hours	22,500
Factory Building Costs	$39,000	Factory Manager Hours	65,000
	$100,875

John is thinking about registering with the SEC so that the company can trade its shares publicly. If the company goes public, John wants the company to issue 75,000 new shares at $20.00 each to generate $1,500,000 of new capital. The Men’s Razor sells for $45.00 and the Women’s model sells for $55.00. John expects to produce and sell 30,000 of the Men’s Razor and 10,000 of the Women’s Razor in the current year.

            The depreciation of long-term assets is based on the straight-line method and each asset’s estimated useful life. The insurance costs are the monthly premium the company pays to GEICO. Home office utilities average about $650 per month. The truck drivers deliver the razors to the stores in lots of 5,000 razors each trip and each trip takes about 200 hours up and back. The factory machinery costs are twenty percent variable and eighty percent fixed. The factory building costs are sixty variable and forty percent fixed.  

Home Office Building Depreciation	$8,500/Year
Home Office Computers Depreciation	$4,500/Year
Men’s Razor Raw Materials	$5.00/Per Unit Produced
Women’s Razor Raw Materials	$7.00/Per Unit Produced
Home Office Insurance	$21,000/Year
Home Office Utilities	$7,800/Year
Design Engineer Salaries	$110,000 annual/Per Engineer
Marketing Employee Salaries	$40,000 annual/Per EE
Interest on 1st National Loan	$24,000/Year
Truck Driver’s Wages ($12 per hr)	$19,200/Year
Factory Machinery Costs	$61,875/Year
Home Office Property Taxes	$8,500/Year
Men’s Razor Direct Labor	$15/Per Unit Produced
Women’s Razor Direct Labor	$20/Per Unit Produced
Factory Building Costs	$39,000/Year
Trucks Depreciation	$5,000/Year

Blues Traveler Company expects to sell 30,000 Men’s Razors and 10,000 Women’s Razors for the current year, giving the company a 3:1 sales mix. Total variable and total fixed costs for the company were estimated in question 6. The selling price per unit is $45.00 for the Men’s Razor and $55.00 for the Women’s Razor. Assume that the variable costs per unit are $20.00 and $25.00 for the Men’s and Women’s Razors, respectively.

Product	Selling Price	VC Per Unit	CM Per Unit	Sales Mix
Men’s	$45	$20	$25	3
Women’s	$55	$25	$30	1

1. Use the information above (including the 3:1 sales mix) to calculate the break-even point in units for both the Men’s and Women’s products.

2. Determine how many units of each product (Men’s and Women’s) must be sold to earn a profit of $750,000.

3. Determine how many units must be sold to have a profit of $800,000 assuming that the sales mix changes to 3:2. Remember, for each of your answers for questions 8-10, you must indicate how many Men’s Razors and Women’s Razors must be sold.

Blues Traveler Company expects to sell 30,000 Men’s Razors and 10,000 Women’s Razors for the current year, giving the company a 3:1 sales mix. Total variable and total fixed costs for the company were estimated in question 6. The selling price per unit is $45.00 for the Men’s Razor and $55.00 for the Women’s Razor. Assume that the variable costs per unit are $20.00 and $25.00 for the Men’s and Women’s Razors, respectively.

John believes that annual operating income, before taxes, of $750,000 and a return on equity of thirty five percent would be sufficient to attract investors if the company goes public. Chan isn’t so sure. Currently, the company’s annual operating profits are well below $750,000 per year but the ROE is close to thirty five percent. John knows that if he can increase annual profits he can take the company public with Chan’s blessing. One option under consideration is to reduce the costs of manufacturing by buying a key component from an outside supplier instead of producing it in house.

The company needs approximately 40,000 rotary heads for the razors it manufacturers each year or more, depending on how many units are sold. The costs of producing the rotary heads in house is provided below:

	Per Unit	Total (40,000 Units)
Raw Materials	$1.25	$50,000
Direct Labor	$4.50	$180,000
Variable Mfg Overhead	$.75	$30,000
Fixed Manufacturing OH		$100,000

If the rotary heads are purchased instead of made by Blues Traveler Co. thirty percent of the fixed manufacturing overhead costs will be eliminated. In addition, if the rotary heads are purchased instead of manufactured it will free up space at the assembly plant in Asia and the idle factory space can be rented out to a third party for $44,300 per year.

4. Assume that the rotary heads can be purchased for $7.50 per unit. Should Blues Traveler make the rotary heads or purchase them from the outside supplier. How much is the savings by doing the cheapest alternative?

As they get closer to the end of the current year, John and Chan begin to think about next year. John is the head of the budget team and he has already gathered some of the information he needs to prepare the next year’s budget. His sales forecast remains 30,000 Men’s Razors and 10,000 Women’s Razors at a selling price of $45.00 and $55.00 for the whole year. John would consider changing the selling price of one or both of the products if he felt it would increase profits or market share.

The Men’s Razor is made out of 1 pound of raw materials at a cost of $5.00 per unit. The Women’s Razor uses 1.5 pounds of raw materials at a cost of $7.00 per unit. Raw Materials are purchased on credit and paid for fifty percent in the first quarter following the purchase and the remainder in the second quarter following the purchase. The last year’s Q3 and Q4 purchases of raw materials were $45,000 and $95,000 respectively. John wants an ending balance of raw materials equal to ten percent of the raw materials needed in the next quarter. The beginning balance of raw materials was 1,200 pounds split equally between the two products.

Unit sales for 2017 are forecasted to be:

	Q1	Q2	Q3	Q4	Q1 Next Year
Men’s Razor-Units	5,000	5,000	5,000	15,000	5,200
Women’s Razor-Units	2,000	2,000	2,000	4,000	2,300

      Sales are forty percent cash and sixty percent credit. Credit sales are collected fifty percent in the quarter following the sale and forty-five percent in the second quarter following the sale. Five percent of credit sales are expected to go uncollected. Total sales for Q3 and Q4 of the previous year, which are expected to be partially collected during this year, were $300,000 and $850,000.

5. Prepare a Sales (Revenues) Budget and Cash Collection schedule for the year ended December 31, 2017.  

6. Prepare a Raw Materials Purchases budget and Cash Payments schedule for the year ended December 31, 2017.  

7. Prepare a Direct Labor budget for the year ended December 31, 2017. Recall from a previous part of the project that the Men’s Razor takes 1.5 DL hours to manufacture and the Women’s Razor takes 2.0 DL hours and that the subcontractors who assembly the razors get paid $10.00 per hour.

Answer 1

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