Question

In: Accounting

Zachary Corporation makes and sells state-of-the-art electronics products. One of its segments produces The Math Machine,...

Zachary Corporation makes and sells state-of-the-art electronics products. One of its segments produces The Math Machine, an inexpensive calculator. The company’s chief accountant recently prepared the following income statement showing annual revenues and expenses associated with the segment’s operating activities. The relevant range for the production and sale of the calculators is between 35,000 and 73,000 units per year.


Revenue (46,000 units × $8)	$	368,000
Unit-level variable costs
Materials cost (46,000 × $2)		(92,000	)
Labor cost (46,000 × $1)		(46,000	)
Manufacturing overhead (46,000 × $0.40)		(18,400	)
Shipping and handling (46,000 × $0.24)		(11,040	)
Sales commissions (46,000 × $1)		(46,000	)
Contribution margin		154,560
Fixed expenses
Advertising costs		(30,000	)
Salary of production supervisor		(66,000	)
Allocated companywide facility-level expenses		(82,000	)
Net loss	$	(23,440	)

Required

a. A large discount store has approached the owner of Zachary about buying 6,000 calculators. It would replace The Math Machine’s label with its own logo to avoid affecting Zachary’s existing customers. Because the offer was made directly to the owner, no sales commissions on the transaction would be involved, but the discount store is willing to pay only $5.20 per calculator. Calculate the contribution margin from the special order. Based on quantitative factors alone, should Zachary accept the special order?

b-1. Zachary has an opportunity to buy the 46,000 calculators it currently makes from a reliable competing manufacturer for $4.80 each. The product meets Zachary’s quality standards. Zachary could continue to use its own logo, advertising program, and sales force to distribute the products. Should Zachary buy the calculators or continue to make them?

b-2. Calculate the total cost for Zachary to make and buy the 46,000 calculators.

b-3. Should Zachary buy the calculators or continue to make them, if the volume of sales were increased to 73,000 units?

c. Because the calculator division is currently operating at a loss, should it be eliminated from the company’s operations? Support your answer with appropriate computations. Specifically, by what amount would the segment’s elimination increase or decrease profitability?

Expert Solution

Solution a:

Computation of contribution margin from special order - Zechary Corporation
Particulars	Amount
Revenue from special order (6000*$5.20)	$31,200.00
Variable cost:
Material cost (6000*$2)	$12,000.00
Labor cost (6000*$1)	$6,000.00
Manufacturing overhead (6000*$0.40)	$2,400.00
Shipping and handling (6000*$0.24)	$1,440.00

Contribution margin from special order	$9,360.00

Solution b-1:

Differential Analysis - Making calculator (alt 1) or Buying Calculator (Alt2) - Zechary Corporation
Particulars	Making Calculator (Alt 1)	Buying Calculator (Alt 2)	Financial advantage (Disadvantage) of buying (Alternative 2)
Relevant Costs:
Purchase Price (46000*$4.80)	$0.00	$220,800.00	-$220,800.00
Direct material	$92,000.00	$0.00	$92,000.00
Direct Labor	$46,000.00	$0.00	$46,000.00
Variable mandufacturing overhead	$18,400.00	$0.00	$18,400.00
Salary of production supervisor	$66,000.00	$0.00	$66,000.00

Total Cost	$222,400.00	$220,800.00	$1,600.00

As buying cost is lower than making cost therefore Zenchary should buy the calculator

Solution b2:

Refer table in b1-

Total cost of making 46000 calculators = $222,400

Total cost of buying 46000 calculators = $220,800

Solution b3:

Differential Analysis - Making calculator (alt 1) or Buying Calculator (Alt2) - Zechary Corporation
Particulars	Making Calculator (Alt 1)	Buying Calculator (Alt 2)	Financial advantage (Disadvantage) of buying (Alternative 2)
Relevant Costs:
Purchase Price (73000*$4.80)	$0.00	$350,400.00	-$350,400.00
Direct material	$146,000.00	$0.00	$146,000.00
Direct Labor	$73,000.00	$0.00	$73,000.00
Variable mandufacturing overhead	$29,200.00	$0.00	$29,200.00
Salary of production supervisor	$66,000.00	$0.00	$66,000.00

Total Cost	$314,200.00	$350,400.00	-$36,200.00

As making cost is lower than buying cost, therefore Zachary should make the calculator if volume of sales increased to 73000 units.

Solution c:

Differential Analysis - Continue Calculator Divison (Alt 1) or Discontinue Calculator Divison (Alt 2)
Particulars	Continue Calculator Divison (Alt 1)	Discontinue Calculator Divison (Alt 2)	Differential effect on income (Alt 2)
Particulars	Amount	Amount	Differential effect on income (Alt 2)
Contribution margin	$154,560.00	$0.00	-$154,560.00
Fixed Costs:
Advertising cost	$30,000.00	$0.00	-$30,000.00
Salary of production supervisor	$66,000.00	$0.00	-$66,000.00
Allocated companywide facility-level expenses	$82,000.00	$82,000.00	$0.00
Total Fixed Costs	$178,000.00	$82,000.00	-$96,000.00

Operating Income	-$23,440.00	-$82,000.00	-$58,560.00

Therefore profit will decrease by $58,560 on eliminiation of calculator division therefore calculator division should not be eliminated.

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