Question

Birch Company normally produces and sells 44,000 units of RG-6 each month. The selling price is $20 per unit, variable costs are $10 per unit, fixed manufacturing overhead costs total $175,000 per month, and fixed selling costs total $34,000 per month.

Employment-contract strikes in the companies that purchase the bulk of the RG-6 units have caused Birch Company’s sales to temporarily drop to only 8,000 units per month. Birch Company estimates that the strikes will last for two months, after which time sales of RG-6 should return to normal. Due to the current low level of sales, Birch Company is thinking about closing down its own plant during the strike, which would reduce its fixed manufacturing overhead costs by $42,000 per month and its fixed selling costs by 10%. Start-up costs at the end of the shutdown period would total $14,000. Because Birch Company uses Lean Production methods, no inventories are on hand.

Required:

1. What is the financial advantage (disadvantage) if Birch closes its own plant for two months?

2. Should Birch close the plant for two months?

3. At what level of unit sales for the two-month period would Birch Company be indifferent between closing the plant or keeping it open?

Answer 1

Sale Price	20
Variable Cost	10
Contribution	10
Contribution from 8000 units/month	80,000
For 2 months= 80000*2	1,60,000
Fixed manufacturing Costs / month	1,75,000
Selling Overhead / month	34,000
Total Fixed Cost / month	2,09,000
For 2 Months	4,18,000
Net Loss	-2,58,000	( on operation)
(1,60,000-4,18,000)
Avoidable Fixed Costs
Fixed manufacturing Costs / month	42,000
Selling Overhead / month	3,400
Less: Start up Costs	14,000
Total Avoidable Fixed Costs	31,400
For 2 Months	62,800
Contribution lost on closing down	1,60,000
Less: Avoidable Fixed Cost	62,800
Net Loss	-97,200	( On Closing Down)
Yes , Birch should close the plant for 2 months since on closing net loss is less
Indifference point	Avoidable Fixed cost/ contribution / unit
Indiffernce point	6,280