Question

Exercise 12-8 Volume Trade-Off Decisions [LO12-5, LO12-6]

Barlow Company manufactures three products—A, B, and C. The selling price, variable costs, and contribution margin for one unit of each product follow:

	Product
	A				B				C
Selling price	$	180			$	300			$	260
Variable expenses:
Direct materials		20				90				30
Other variable expenses		120				120				170
Total variable expenses		140				210				200
Contribution margin	$	40			$	90			$	60
Contribution margin ratio		22	%			30	%			23	%

The same raw material is used in all three products. Barlow Company has only 6,750 pounds of raw material on hand and will not be able to obtain any more of it for several weeks due to a strike in its supplier’s plant. Management is trying to decide which product(s) to concentrate on next week in filling its backlog of orders. The material costs $10 per pound.

Required:

1. Calculate the contribution margin per pound of the constraining resource for each product.

2. Assuming that Barlow has unlimited demand for each of its three products, what is the maximum contribution margin the company can earn when using the 6,750 pounds of raw material on hand?

3. Assuming that Barlow’s estimated customer demand is 500 units per product line, what is the maximum contribution margin the company can earn when using the 6,750 pounds of raw material on hand?

4. A foreign supplier could furnish Barlow with additional stocks of the raw material at a substantial premium over the usual price. Assuming Barlow’s estimated customer demand is 500 units per product line and that the company has used its 6,750 pounds of raw material in an optimal fashion, what is the highest price Barlow Company should be willing to pay for an additional pound of materials?

Answer 1

ANSWER :

Requirement - 1

	A	B	C
Contribution margin ( given)	40	90	60
Material required ( in pounds)	2	9	3
pounds = 20/10 , 90/10 and 30/10
Contribution per pound	20	10	20

Requirement - 2

When there is unlimited demand ( i.e what ever is produced can be sold) then all the resources shall be diverted to use for Product A OR Product C with highest contribution of 20 per pound of material used.

Maximum contribution = 6750 pounds * 20 = 135000...........................is the final answer

Requirement - 3

For demand at 500 units per product. we need 500 * 2 = 1000 pounds in first instance for product - A. After that we will be having 6750 - 1000 = 5750 pounds.

Product – C shall be considered at this stage, which requires 500 units * 3 pounds = 1500 pounds.

Now 5750 - 1500 = 4250 pounds of material will be available for production of Product - B. With that we can produce a maximum quantity of 4250/9 = 472 units only.

Product	Pounds	CM/Pound	Total CM
A	1000	20	20000
B	4250	10	42500
C	1500	20	30000
	Maximum contribution		92500

Requirement - 4

If additional raw material is purchased, it had to be used for product - B. Because, we have already meet the demands of A and C.

So .........Maximum price = 10 per pound ( current price) + 10 per pound ( contribution per pound)

= $ 20 .......................final answer

THANKS...