Question

Andretti Company has a single product called a Dak. The company normally produces and sells 87,000 Daks each year at a selling price of $58 per unit. The company’s unit costs at this level of activity are given below: Direct materials $ 7.50 Direct labor 11.00 Variable manufacturing overhead 3.20 Fixed manufacturing overhead 8.00 ($696,000 total) Variable selling expenses 2.70 Fixed selling expenses 3.50 ($304,500 total) Total cost per unit $ 35.90 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 113,100 Daks each year without any increase in fixed manufacturing overhead costs. The company could increase its unit sales by 30% above the present 87,000 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 113,100 Daks each year. A customer in a foreign market wants to purchase 26,100 Daks. If Andretti accepts this order it would have to pay import duties on the Daks of $1.70 per unit and an additional $18,270 for permits and licenses. The only selling costs that would be associated with the order would be $1.50 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 87,000 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

1a). Assuming total capacity of 113100 daks, currently producing 87000 daks.
Co. can increase 30% unit sales with additional fixed selling costs of $120000.
Additional units = 87000*30% = 26100 units
Selling Price                             58
Direct Material                          7.5
Direct Labour                            11
Variable mfr                              3.2
Variable selling                         2.7
Contribution per unit                 33.6
Total additional contribution = 26100*33.6 = $876,960
Net Advantage = 876960 - 130000 = $746960

1b). Yes, the additional investement is justified because it results in profit.

2). Assuming company's capacity to produce daks is 113100 each year.
Calculating Total variable cost per unit for this order:
Variable Cost
       Direct Material                         7.5
       Direct Labour                           11
      Variable mfr overhead                3.7
      Variable selling overhead           1.5
Total Variable cost                        23.7
Additional costs:
Import duties = 26100 *1.7 = 44370
Licence                            = 18270
Total addition cost =            62640

Let the selling price be x . For breakeven this equation must be satisfied.
26100x - (26100*23.7) = 62640
26100x - 618570 = 62640
26100x = 681210
x = 26.1 i,.e breakeven selling price where profit is zero.

3). If company has 700 daks in hand which can't be sold at normal market price then , minimum relevant cost is $35.90 per unit.

4).IF company works at 25% capacity for 2 months i.e 87000*25% = 21750/6 = 3625 daks
Contribution = 3625 *33.6 =           121800
Fixed Costs:(696000+304500)/6 = 166750
Net loss = 121800 - 166750 = 44950

If company closes plant for 2 months:
Fixed Costs = Manufacturing = 696000*40% = 278400/6 = 46400
                      Selling = 304500*80% = 243600/6 = 40600
Total Fixed cost = 87000

a). Total contribution which company will forgo even closes plant for 2 months = $121800
b).Total Fixed costs if company will avoid if closed plant for 2 months:
Manufacturing = 696000/6*60% = 69600
Selling = 304500*20%/6 = 10150
Total Avoided cost = $79750
c).Financial disadvantage for closing the plant :
Loss due to closing the plant = 87000
Loss due to 25% working = 44950
Disadvantage = 87000 - 44950 = $42050
d).No. Company should not close the plant.

5). Avoidable cost per unit:
Variable cost per unit =   (7.5+11+3.2+(2.7/3*1))= 22.6
Fixed mfr cost per unit = (696000*30%)/87000 = 2.4
Total avoidable cost per unit = 25 per unit