Question

Andretti Company has a single product called a Dak. The company normally produces and sells 88,000 Daks each year at a selling price of $54 per unit. The company’s unit costs at this level of activity are given below:

Direct materials	$	8.50
Direct labor		8.00
Variable manufacturing overhead		2.70
Fixed manufacturing overhead		8.00	($704,000 total)
Variable selling expenses		1.70
Fixed selling expenses		3.00	($264,000 total)
Total cost per unit	$	31.90

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 105,600 Daks each year without any increase in fixed manufacturing overhead costs. The company could increase its unit sales by 20% above the present 88,000 units each year if it were willing to increase the fixed selling expenses by $130,000. What is the financial advantage (disadvantage) of investing an additional $130,000 in fixed selling expenses?

1-b. Would the additional investment be justified?

2. Assume again that Andretti Company has sufficient capacity to produce 105,600 Daks each year. A customer in a foreign market wants to purchase 17,600 Daks. If Andretti accepts this order it would have to pay import duties on the Daks of $2.70 per unit and an additional $12,320 for permits and licenses. The only selling costs that would be associated with the order would be $2.10 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 40% 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-month period?

d. Should Andretti close the plant for two months?

5. An outside manufacturer has offered to produce 88,000 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

Marginal Cost Analysis Sheet of Andretti Co for Dak
A	Selling Price per unit		54
B	Variable Cost per unit
	Direct Material cost	8.5
	Direct Labour	8
	Variable Mfg OH	2.7
	VariableSelling Exp	1.7
	Total Variable Cost per unit		20.9
C	Contribution per unit A-B		33.1
D	Fixed Mfg OH	704000
	Fixed Selling Exp	264000
	Total Fixed Exp		968000

1-a

At 20% increase in volume over current 88000 the working is as under.We use the Contribution per unit from C above anad increase in Fixed cost of $130000 as given.

	Net Income		Net income at 20% increase in volume
Nos of units	88000		105600
Contribution	2912800		3495360
Fixed cost	968000		1098000
Net income	1944800		2397360

The net income will go up from the current $1,944,800 to $2,397,360. in other words net income will increase by $452,560.

1b. The additional investment will be justified as by selling additional 17600 units, the company makes additional contributions of $33.1X 17600= $ 582560.For this they invested $130000 thereby netting additional net income of $452,560.  

2.

Breakeven price for the 17600 units
Variable Cost existing	20.9			Breakeven Sale price= (Total Fixed Cost + Total Variable Cost)/ Nos of units
Additional VC per unit
Import duties	2.7			This	(12360+17600*24)/17600
Less Selling existing Variable Expenses	-1.7			That is	24.7022727
Add Shipping cost	2.1
Total Variable Cost for the export order	24			Therefore the Breakeven sales price for 17,600 units will be $24.70
Fixed cost foir this order is the licence cost	$12,320

3. For the 700 defective units the variable cost per unit will be the relevant cost to consider as the fixed costs are sunk and will have no bearing on the decision. As long as the company can get a price greater than or equal to $ 20.9 which the variable cost it will be relevant.