Question

McVay Industries (MI) produces ice cream supplies including bowls, scoops and shake makers. MI made $605,000 of pre-tax profit last year.  They are looking for ways to improve profitability and are considering outsourcing production of their Bowls. Juan Hernandez, the controller, compiled the following information.

	Bowls		Scoops		Shake Makers		TOTAL
Units Manufactured and sold	2,000,000		500,000		100,000
DM per unit	$0.50		$1.25		$5.00
DL per unit	$0.10		$0.50		$4.00
VMOH per unit	$0.15		$0.25		$5.00
FMOH per unit (based on current production)	$0.40		$0.50		$5.00
Total Cost per unit	$1.15		$2.50		$19.00
Selling Price	$2.00		$4.00		$25.00
Gross Profit per Unit	$0.85		$1.50		$6.00
Total Sales	$4,000,000		$2,000,000		$2,500,000		$8,500,000
Total COGS	$2,300,000		$1,250,000		$1,900,000		$5,450,000
Total Gross Profit	$1,700,000		$750,000		$600,000		$3,050,000
Total Variable (selling) costs	($300,000)		($100,000)		($125,000)		($525,000)
SG&A Fixed Costs – Direct*	($400,000)		($200,000)		($100,000)		($700,000)
SG&A Fixed Costs – Common**	($680,000)		($300,000)		($240,000)		($1,220,000)
Pre-Tax Profit	$320,000		$150,000		$135,000		$605,000

*   Direct SG&A Fixed Costs can be eliminated if the specific product is outsourced.

** Common  SG&A Fixed Costs can not be eliminated even if the specific product is outsourced.

If the bowls are outsourced, fixed manufacturing overhead costs of $366,500 to lease machinery related to bowls production could be eliminated.  Assume that direct fixed SG&A expenses relate directly to the bowls line and could be completely eliminated if the bowls product line is dropped.

Additionally, if the bowls are outsourced, the company would have excess capacity and could produce and sell additional 20,000 scoops (for the same selling price of $4 per scoop), and additional 10,000 shake makers (for the same selling price of $25 per shake maker).  

Question: What is the maximum amount MI should pay for the bowl from an independent supplier (price per unit) to be no worse off financially? Show your work. Round your answer to two decimals.

Answer 1

	Avoidable
Particulars	Portion
COGS	$     2,300,000
Variable selling costs	$     2,300,000
SG&A Fixed costs	$        400,000
SG&A fixed common	$        366,500
Contribution from scoops 20,000 × 2	$         (40,000)
Shakemaker contribution 10,000 × 5	$         (50,000)
Total	$     5,276,500
Divided by units	$     2,000,000
Maximum per unit	$              2.64

Costs that can be avoided net of contribution from additional sales is $5,276,500 is the maximum amount that can be paid to supplier for buying 2,000,000 units. Which comes to 2.64 per unit.

Answer is $2.64