In: Accounting
Get Hitched Inc. is a production company that is in the process of testing a strategic initiative aimed at increasing gross profit. The company’s current sales revenue is $2,100,000. Currently, the company’s gross profit is 35% of sales, but the company’s target gross profit percentage is 40%. The company’s current monthly cost of production is $1,365,000. Of this cost, 50% is for labor, 20% is for materials, and 30% is for overhead.
The strategic initiative being tested at Get Hitched is a redesign of its production process that splits the process into two sequential procedures. The make up of the costs of production for Procedure 1 is currently 50% direct labor, 45% direct materials, and 5% overhead. The makeup of the costs of production for Procedure 2 is currently 55% direct labor, 25% direct materials, and 20% overhead. Company management estimates that Procedure 1 costs twice as much as Procedure 2.
1. Determine what the cost of labor, materials, and overhead for both Procedures 1 and 2 would need to be for the company to meet its target gross profit at the current level of sales.
Cost makeup of Procedure 1:
Direct Labor | $ | ||||||||||||||||||||||||
Direct Materials | |||||||||||||||||||||||||
Overhead | |||||||||||||||||||||||||
Total | $
Cost makeup of Procedure 2:
|
Answer 1:
Cost makeup of procedure 1 | |
Labor (50%) | $ 420,000 |
Material (45%) | $ 378,000 |
Overhead (5%) | $ 42,000 |
Total | $ 840,000 |
Cost makeup of procedure 2 | |
Labor (55%) | $ 231,000 |
Material (25%) | $ 105,000 |
Overhead (20%) | $ 84,000 |
Total | $ 420,000 |
Note:
Sales | $ 2,100,000 |
Less: Gross profit (sales * 40%) | $ 840,000 |
COGS | $ 1,260,000 |
Procedure 1 (COGS *2/3) | $ 840,000 |
Procedure 2 (COGS *1/3) | $ 420,000 |
Answer 2:
Cost makeup of procedure 1 | |
Labor (390600/45*50) | $ 434,000 |
Material | $ 390,600 |
Overhead (390600/45*5) | $ 43,400 |
Total | $ 868,000 |
Cost makeup of procedure 2 | |
Labor (55%) | $ 238,700 |
Material (25%) | $ 108,500 |
Overhead (20%) | $ 86,800 |
Total | $ 434,000 |
Answer 3:
Cost of procedure 1 | $ 868,000 |
Cost makeup of procedure 2 | |
Labor | $ 238,700 |
Material | $ 108,500 |
Overhead (other than material) 30% | $ 26,040 |
Gross Profit | $ 840,000 |
$ 2,081,240 | |
Less: sales | $ 2,100,000 |
Maximum cost of P2 Overhead material | $ 18,760 |
In case of any doubt, please comment.