Question

The Rosa model of Mohave Corp. is currently manufactured as a very plain umbrella with no decoration. The company is considering changing this product to a much more decorative model by adding a silk-screened design and embellishments. A summary of the expected costs and revenues for Mohave’s two options follows:      

	Rosa Umbrella			Decorated Umbrella
Estimated demand		20,000	units		20,000	units
Estimated sales price	$	22.00		$	32.00
Estimated manufacturing cost per unit
Direct materials	$	12.50		$	14.50
Direct labor		3.50			6.00
Variable manufacturing overhead		2.50			4.50
Fixed manufacturing overhead		4.00			4.00
Unit manufacturing cost	$	22.50		$	29.00
Additional development cost				$	10,000

Required:
1. Determine the increase or decrease in profit if Mohave sells the Rosa Umbrella with the additional decorations.

  

	Rosa Umbrella Decorated Umbrella Incremental Sales Revenue Variable Costs Contribution Margin Additional Development Costs Differential Profit (Loss)

2. Should Mohave add decorations to the Rosa umbrella?

	No
	Yes

3-a. Suppose that the higher price of the decorated umbrella is expected to reduce estimated demand for this product to 18,000 units. Determine the increase or decrease in profit if Mohave sells the Rosa Umbrella with the additional decorations.

	Rosa Umbrella Decorated Umbrella Incremental Sales Revenue Variable Costs Contribution Margin Additional Development Costs Differential Profit (Loss)

3-b. Should Mohave add decorations to the Rosa umbrella?

	No
	Yes

Answer 1

Answer:1)-

Mohave Corp.
Particulars	Rose Umbrella	Decorated Umbrella	Incremental
	(a)	(b)	(c=a-b)
Sales revenue	20000 units*$22 per unit=440000	20000 units*$32 per unit=640000	200000
Less:- Variable costs	20000 units*$18.50 per unit=370000	20000 units*$25 per unit=500000	130000
Contribution margin	70000	140000	70000
Additional Developments costs	Nil	10000	10000
Differential profit (loss)	70000	130000	60000

2)-Yes, Mohave should add decorations to the Rose umbrella due to incremental profit of $60000.

3)-a-

Mohave Corp.
Particulars	Rose Umbrella	Decorated Umbrella	Incremental
	(a)	(b)	(c=a-b)
Sales revenue	20000 units*$22 per unit=440000	18000 units*$32 per unit=576000	136000
Less:- Variable costs	20000 units*$18.50 per unit=370000	18000 units*$25 per unit=450000	80000
Contribution margin	70000	126000	56000
Additional Developments costs	Nil	10000	10000
Differential profit (loss)	70000	116000	46000

3-b)- Yes, Mohave should add decorations to the Rose umbrella due to incremental profit of $46000.