Question

Andretti Company has a single product called a Dak. The company normally produces and sells 83,000 Daks each year at a selling price of $58 per unit. The company’s unit costs at this level of activity are given below:

Direct materials	$	7.50
Direct labor		9.00
Variable manufacturing overhead		1.90
Fixed manufacturing overhead		4.00	($332,000 total)
Variable selling expenses		4.70
Fixed selling expenses		4.00	($332,000 total)
Total cost per unit	$	31.10

A number of questions relating to the production and sale of Daks follow. Each question is independent.

Required:

1-a. Assume that Andretti Company has sufficient capacity to produce 107,900 Daks each year without any increase in fixed manufacturing overhead costs. The company could increase its unit sales by 30% above the present 83,000 units each year if it were willing to increase the fixed selling expenses by $150,000. What is the financial advantage (disadvantage) of investing an additional $150,000 in fixed selling expenses?

1-b. Would the additional investment be justified?

2. Assume again that Andretti Company has sufficient capacity to produce 107,900 Daks each year. A customer in a foreign market wants to purchase 24,900 Daks. If Andretti accepts this order it would have to pay import duties on the Daks of $3.70 per unit and an additional $14,940 for permits and licenses. The only selling costs that would be associated with the order would be $1.90 per unit shipping cost. What is the break-even price per unit on this order?

3. The company has 700 Daks on hand that have some irregularities and are therefore considered to be "seconds." Due to the irregularities, it will be impossible to sell these units at the normal price through regular distribution channels. What is the unit cost figure that is relevant for setting a minimum selling price?

4. Due to a strike in its supplier’s plant, Andretti Company is unable to purchase more material for the production of Daks. The strike is expected to last for two months. Andretti Company has enough material on hand to operate at 25% of normal levels for the two-month period. As an alternative, Andretti could close its plant down entirely for the two months. If the plant were closed, fixed manufacturing overhead costs would continue at 35% of their normal level during the two-month period and the fixed selling expenses would be reduced by 20% during the two-month period.

a. How much total contribution margin will Andretti forgo if it closes the plant for two months?

b. How much total fixed cost will the company avoid if it closes the plant for two months?

c. What is the financial advantage (disadvantage) of closing the plant for the two-months?

5. An outside manufacturer has offered to produce 83,000 Daks and ship them directly to Andretti’s customers. If Andretti Company accepts this offer, the facilities that it uses to produce Daks would be idle; however, fixed manufacturing overhead costs would be reduced by 30%. Because the outside manufacturer would pay for all shipping costs, the variable selling expenses would be only two-thirds of their present amount. What is Andretti’s avoidable cost per unit that it should compare to the price quoted by the outside manufacturer?

Answer 1

Andretti Company
1-a Calculation Of incremental Income
Revenue :-
S.P p.u		58
Expenses :-
DM	7.5
DL	9
Var. Mfg. OH	1.9
Var. Selling and Adm. Exp.	4.7
Total expenses		23.1
Contribution margin p.u		34.9
Increased sale in units		24900
Contribution Margin per unit		34.9
Incremental Contribution Margin		8,69,010
Less:- Fixed Selling expenses		1,50,000
Net incremental Income		7,19,010
yes, the increased fixed expenses would be justified.
2 - Break even price
Variable Mfg. cost per unit	18.4	( 7.5 + 9 + 1.9 )
Import duties per unit	3.7
Cost for permits and licenses	0.6	14940/	24900
Shipping costs per unit	1.9
Break even price per unit	24.6
3- Relevant Cost
DM	Sunk cost
DL	Sunk cost
Var. Mfg. OH	Sunk cost
Var. Selling and Adm. Exp.	4.7
Minimum selling price	4.7
4 - Impact on profits		If the company operates at 25 % Level
Net operating income at 25 %	10018			Units produced = 83000 * 2/12 = 13833 * 25 %= 3458 units
If compnay is closed down				The profit that can be earned on these units
Fixed manufacturing OH cost ( 55333 * 35 %)	19367			Contribution margin = 3458 * 34.9 = $ 120684
Fixed Selling cost ( 55333 * 80 %)	44266			Less:- Fixed manufacturing OH = 332000 * 2/12 = 55333
Total Loss incurred by closing down the plant	63633			Fixed selling expenses = 332000 * 2/12 = 55333
Net disadvantage of closing the plant	73651	Answer c		Net income = 10018
				Answer a = $120684
5- relevant cost		Answer b =55333 + 55333 - 63633 = $ 47033
				Answer d - No.
Variable Mfg. cost per unit	18.4	( 7.5 + 9 + 1.9 )
Fixed mfg. OH cost ( 4 * 30 % )	1.2
Var. Selling and Adm. Exp. ( 4.7 * 1/3 )	1.57
Total costs avoided	21.17