Question

Gargantuan Industries is a multiproduct company with several manufacturing plants. The Boise Plant manufactures and distributes two household cleaning and polishing compounds, standard and commercial, under the Super Clean label. The forecasted operating results for the first six months of the current year, when 100,000 cases of each compound are expected to be manufactured and sold, are presented in the following statement.

SUPER CLEAN COMPOUNDS—BOISE PLANT

Forecasted Results of Operations

For the Six-Month Period Ending June 30

(in thousands)

Sales	$2,000	$3,000	$5,000
Cost of goods sold	$2000	$3000	$5000
Gross Profit	1600	1900	3500
Selling and administrative expenses: Variable	$400	$1100	$1500
Selling and administrative expenses: Fixed	240	360	600
Total selling and administrative expenses	640	260	1700
Income (loss) before taxes	(240)	40	(200)

^*The fixed selling and administrative expenses are allocated between the two products on the basis of dollar sales volume.

The standard compound sold for $20 a case and the commercial compound sold for $30 a case during the first six months of the year. The manufacturing costs, by case of product, are presented in the schedule below. Each product is manufactured on a separate production line. Annual normal manufacturing capacity is 200,000 cases of each product. However, the plant is capable of producing 250,000 cases of standard compound and 350,000 cases of commercial compound annually.

	$7.00	$8.00
	4.00	4.00
	1.00	2.00
	4.00	5.00
	$16.00	$19.00
	$4.00	$7.00

Depreciation charges are 50 percent of the fixed manufacturing overhead of each line.

The following schedule reflects the consensus of top management regarding the price-volume alternatives for the Super Clean products for the last six months of the current year. These are essentially the same alternatives management had during the first six months of the year.

Standard Compound

Alternative prices (per case)	Sales volume (in cases)
$18	120,000
20	100,000
21	90,000
22	80,000
23	50,000

Commercial Compound

Alternative prices (per case)	Sales volume (in cases)
$25	175,000
27	140,000
30	100,000
32	55,000
35	35,000

Gargantuan’s top management believes the loss for the first six months reflects a tight profit margin caused by intense competition. Management also believes that many companies will leave this market by next year and profit should improve.

Required:

1. What unit selling price should Gargantuan Industries select for each of the Super Clean compounds for the remaining six months of the year?

(JUST FYI: The selling price for standard compound is not $20 per case)

2-a. Independently of your answer to requirement (1), assume the optimum alternatives for the last six months were as follows: a selling price of $23 and volume of 50,000 cases for the standard compound, and a selling price of $35 and volume of 35,000 cases for the commercial compound. Calculate the contribution margin.

2-b. Given the scenario in requirement (2-a), should management consider closing down its operations until January 1 of the next year in order to minimize its losses?

Answer 1

	Part-1
1	Computation of Variable Cost for Standard and Commercial Compound
		Standard Compound	Commercial Compound
		Cost /Unit	Cost /Unit
	Direct Material	$7.00	$8.00
	Direct Labour	$4.00	$4.00
	Variable Manufacturing Overhead	$1.00	$2.00
	Variable Selling & Administrative Cost	$4.00	$7.00
	Total Variable cost	$16.00	$21.00
	Part-2
	Compuation of Contribution from Standard Compound
	Volume	Alternative Sales Price	Variable Cost/Unit	Contrubution/Unit	Total Contribution
	120000	$18.00	$16.00	$2.00	$240,000.00
	100000	$20.00	$16.00	$4.00	$400,000.00
	90000	$21.00	$16.00	$5.00	$450,000.00
	80000	$22.00	$16.00	$6.00	$480,000.00
	50000	$23.00	$16.00	$7.00	$350,000.00
	Higher Contribution of $ 480000 will be generated at Sales Price $22 and Volume 80000 Unit
	Compuation of Contribution from Standard Compound
	Volume	Alternative Sales Price	Variable Cost/Unit	Contrubution/Unit	Total Contribution
	175000	$25.00	$21.00	$4.00	$700,000.00
	140000	$27.00	$21.00	$6.00	$840,000.00
	100000	$30.00	$21.00	$9.00	$900,000.00
	55000	$32.00	$21.00	$11.00	$605,000.00
	35000	$35.00	$21.00	$14.00	$490,000.00
	Higher Contribution of $ 900000 will be generated at Sales Price $30 and Volume 100000 Unit
	Part-3
	Contribution margin generated as per Management optimum Level
	Product	Sales Price	Variable Cost	Contribution	Volume	Contribution
	Standard	$23.00	$16.00	$7.00	50000	$350,000.00
	Commercial	$35.00	$21.00	$14.00	35000	$490,000.00
	Total					$840,000.00
	Contribution margin will be generated as perrecommended level
	Product	Sales Price	Variable Cost	Contribution	Volume	Contribution
	Standard	$22.00	$16.00	$6.00	80000	$480,000.00
	Commercial	$30.00	$21.00	$9.00	100000	$900,000.00
	Total					$1,380,000.00
	If Company will follow sale Price and Volume as recommended in above table, it will generate higher contribution of $ 540000 as compare to contribution as per existing Optimum levelopted by Management.