Celestial Products. Inc. has decided to introduce a new product,which can be manufactured by either a computer-assisted manufacturing system or a labor-intensive production system. The manufacturing method will not affect the quality of the product. The estimated manufacturing costs by the two methods are as follows:
Computer-Assisted Manufacturing System | Labor-Intensive Production System | |
Direct material | $5.00 | $ 5.60 |
Direct labor (DLH denotes direct-labor hours) | .5DLH @ $12 6.00 | .8DLH @ $9 720 |
Variable overhead | .5DLH @ $6 3.00 | .8DLH @ $6 4.80 |
Fixed overhead* | $ 2,440,000 | $ 1,320,000 |
*These costs are directly traceable to the new product line.They would not be incurred if the new product were not produced .
The company’s marketing research department has recommended an introductory unit sales price of $30. Selling expenses are estimated to be $ 500.000 annually plus $ 2 for each unit sold. (Ignore income taxes.)
Required:
1. Calculate the estimated break-even point in annual unit sales of the new product if the company uses the (a) computer-assisted manufacturing system; (b) labor-intensive production system.
2. Determine the annual unit sales volume at which the firm would be indifferent between the two manufacturing methods.
3. Management must decide which manufacturing method to employ. One factor it should consider is operating leverage. Explain the concept of operating leverage. How is this concept related to Celestial Product’s decision?
4. Describe the circumstances under which the firm should employ each of the two manufacturing methods.
5 Identify some business factors other than operating leverage that management should consider before selecting the manufacturing method.
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