Question

-Page Break Ex. 174 Henderson Farms reports the following results for the month of November: Sales (10,000 units) $600,000 Variable costs 420,000 Contribution margin 180,000 Fixed costs 110,000 Net income $ 70.000 Management is considering the following independent courses of action to increase net income. 1. Increase selling price by 5% with no change in total variable costs. 2. Reduce variable costs to 66 % of sales. 3. Reduce fixed costs by $10,000. Instructions If maximizing net income is the objective, which is the best course of action?

Answer 1

Evaluation of options,

1. Increase in selling prices by 5%,

• Sales, will increase by 600000*5% = 30,000 and as the variable and fixed costs are remaining the same, the net income will become 70,000 + 30,000 = $ 100,000.

2. Reduce variable cost to 66% of sales,

• By doing so, variable cost will become 600,000*66% = 396,000, that is reduced by 420,000-396,000 = 24,000.
• Therefore the net income will increase by 24,000 as Fixed costs are remaining the same,
• Net income = 70,000 + 24,000 = 94,000.

3. Reduce fixed costs by 10,000

• This will increase net income by 10,000 straight away,
• Net income = 70,000 + 10,000 = 80,000.

If maximizing the net income is the objective, then increasing the selling price by 5% is the best course of action.

Total maintanence cost under high low method,

Under high low method, variable cost = (highest activity cost - lowest activity cost)/(highest units - lowest units)

Therefore variable cost = (156000-60000)/(60000-20000) = 2.4 per unit.

Fixed cost = Total cost - variable cost = 156000 - 60000*2.4 = 12000.

Cost for 45,000 units = 45000*2.4 + 12000 = 120,000.