Question

2. Troy Engines, Ltd., manufactures a variety of engines for use in heavy equipment. The company has always produced all of the necessary parts for its engines, including all of the carburetors. An outside supplier has offered to sell one type of carburetor to Troy Engines, Ltd., for a cost of $30 per unit. To evaluate this offer, Troy Engines, Ltd., has gathered the following information relating to its own cost of producing the carburetor internally:

	Per Unit				13,000 Units Per Year
Direct materials	$	13		$	169,000
Direct labor		9			117,000
Variable manufacturing overhead		3			39,000
Fixed manufacturing overhead, traceable		3	*		39,000
Fixed manufacturing overhead, allocated		6			78,000
Total cost	$	34		$	442,000

*One-third supervisory salaries; two-thirds depreciation of special equipment (no resale value).

Required:

1. Assuming the company has no alternative use for the facilities that are now being used to produce the carburetors, what would be the financial advantage (disadvantage) of buying 13,000 carburetors from the outside supplier?

2. Should the outside supplier’s offer be accepted?

3. Suppose that if the carburetors were purchased, Troy Engines, Ltd., could use the freed capacity to launch a new product. The segment margin of the new product would be $130,000 per year. Given this new assumption, what would be financial advantage (disadvantage) of buying 13,000 carburetors from the outside supplier?

4. Given the new assumption in requirement 3, should the outside supplier’s offer be accepted?

3.

Imperial Jewelers manufactures and sells a gold bracelet for $408.00. The company’s accounting system says that the unit product cost for this bracelet is $267.00 as shown below:

Direct materials	$	142
Direct labor		89
Manufacturing overhead		36
Unit product cost	$	267

The members of a wedding party have approached Imperial Jewelers about buying 28 of these gold bracelets for the discounted price of $368.00 each. The members of the wedding party would like special filigree applied to the bracelets that would require Imperial Jewelers to buy a special tool for $456 and that would increase the direct materials cost per bracelet by $5. The special tool would have no other use once the special order is completed.

To analyze this special order opportunity, Imperial Jewelers has determined that most of its manufacturing overhead is fixed and unaffected by variations in how much jewelry is produced in any given period. However, $6.00 of the overhead is variable with respect to the number of bracelets produced. The company also believes that accepting this order would have no effect on its ability to produce and sell jewelry to other customers. Furthermore, the company could fulfill the wedding party’s order using its existing manufacturing capacity.

Required:

1. What is the financial advantage (disadvantage) of accepting the special order from the wedding party?

2. Should the company accept the special order?

4.

Outdoor Luggage, Inc., makes high-end hard-sided luggage for sports equipment. Data concerning three of the company’s most popular models appear below.

	Ski Guard			Golf Guard			Fishing Guard
Selling price per unit	$	210		$	310		$	265
Variable cost per unit	$	70		$	150		$	130
Plastic injection molding machine processing time required to produce one unit	8 minutes			10 minutes			10 minutes
Pounds of plastic pellets per unit	7 pounds			16 pounds			6 pounds

Required:

1. If we assume that the total time available on the plastic injection molding machine is the constraint in the production process, how much contribution margin per minute of the constrained resource is earned by each product?

2. Which product offers the most profitable use of the plastic injection molding machine?

3. If we assume that a severe shortage of plastic pellets has required the company to cut back its production so much that its new constraint has become the total available pounds of plastic pellets, how much contribution margin per pound of the constrained resource is earned by each product?

4. Which product offers the most profitable use of the plastic pellets?

5. Which product has the largest contribution margin per unit?

Answer 1

2. Troy Engines ....

1. Assuming that the company has no alternative use for the facilities that are now being used to produce the carburetors, what would be the financial advantage (disadvantage) of buying 13,000 carburetors from the outside supplier:

If the company has no alternative use, the fixed costs which were already incurred would be irrelevant for decision making. The fixed costs which were incurred are sunk costs.

Relevant cost in this case are Direct material, Direct labor and variable manufacturing overhead.

Per unit cost of Direct Material, Direct Labor and Variable manufacturing overhead are $13, $9 and $3.

Production of one carburetor would cost the company of $25.

While, if the same is purchased from the outside supplier it would cost the company with $30 per carburetor.

Financial disadvantage of buying 13,000 carburetors from outside buyers is $65,000 (13,000x$5loss)

2. No, the outside supplier's offer shouldn't be accepted.

3. The freed capacity can be used by the company to launch a new product, Segment margin would be $130,000.

That is if the company produces carburetors, there is an opportunity cost of $130,000.

Opportunity cost per unit of carburetor = $130,000 / 13,000 = $10 per carburetor.

In this case, the relevant cost of production of one carburetor = $25 + $10 (opprotunity cost)]

= $35.

But the company can purchase a carburetor from outside supplier at $30.

In this case, financial advantage of buying 13,000 carburetors from outside supplier is $65,000 (13,000 x $5 benefit)

4. Given the new assumption in above (no. 3) , the outside supplier's offer should be accepted.