Question

Alberta Gauge Company, Ltd., a small manufacturing company in Calgary, Alberta, manufactures three types of electrical gauges used in a variety of machinery. For many years the company has been profitable and has operated at capacity. However, in the last two years, prices on all gauges were reduced and selling expenses increased to meet competition and keep the plant operating at capacity. Second-quarter results for the current year, which follow, typify recent experience.

  

ALBERTA GAUGE COMPANY, LTD.
Income Statement
Second Quarter
(in thousands)
	Q-Gauge					E-Gauge					R-Gauge					Total
Sales		$	5,229				$	3,090				$	3,021				$	11,340
Cost of goods sold			3,425					2,644					3,189					9,258
Gross margin		$	1,804				$	446				$	(168	)			$	2,082
Selling and administrative expenses			1,210					635					453					2,298
Income before taxes		$	594				$	(189	)			$	(621	)			$	(216	)

  

Alice Carlo, the company’s president, is concerned about the results of the pricing, selling, and production prices. After reviewing the second-quarter results, she asked her management staff to consider the following three suggestions:

Discontinue the R-gauge line immediately. R-gauges would not be returned to the product line unless the problems with the gauge can be identified and resolved.

Increase quarterly sales promotion by $330,000 on the Q-gauge product line in order to increase sales volume by 15 percent.

Cut production on the E-gauge line by 50 percent, and cut the traceable advertising and promotion for this line to $75,000 each quarter.

Jason Sperry, the controller, suggested a more careful study of the financial relationships to determine the possible effects on the company’s operating results of the president’s proposed course of action. The president agreed and assigned JoAnn Brower, the assistant controller, to prepare an analysis. Brower has gathered the following information.

All three gauges are manufactured with common equipment and facilities.

The selling and administrative expense is allocated to the three gauge lines based on average sales volume over the past three years.

Special selling expenses (primarily advertising, promotion, and shipping) are incurred for each gauge as follows:

	Quarterly Advertising and Promotion					Shipping Expenses
Q-gauge		$	660,000				$	33		per unit
E-gauge			330,000					15		per unit
R-gauge			150,000					45		per unit

The unit manufacturing costs for the three products are as follows:

		Q-Gauge					E-Gauge					R-Gauge
Direct material		$	96.00				$	54.00				$	153.00
Direct labor			126.00					66.00					186.00
Variable manufacturing overhead			141.00					96.00					186.00
Fixed manufacturing overhead			49.65					40.70					76.70
Total		$	412.65				$	256.70				$	601.70

The unit sales prices for the three products are as follows:

Q-gauge	$	630
E-gauge		300
R-gauge		570

The company is manufacturing at capacity and is selling all the gauges it produces.

Required:

2. Use the operating data presented for Alberta Gauge Company and assume that the president’s proposed course of action had been implemented at the beginning of the second quarter.

a. Calculate the net impact on income before taxes for each of the three suggestions.

	E-Gauge Q-Gauge R-Gauge Increase (decrease) in segment contribution

b-1. Calculate contribution margin for R-gauge

b-2. Was the president correct in proposing that the R-gauge line be eliminated? Yes or No?

c-1. Calculate the contribution per direct-labor dollar for Q-gauge and E-gauge

	E-Gauge Q-Gauge Contribution per direct-labor dollar

c-2. Was the president correct in promoting the Q-gauge line rather than the E-gauge line? Yes or No?

Answer 1

2(a) Alberta Gauge Company
Income Statement- Second Quarter (in $)
		Q-Gauge	E- Gauge	R-Gauge	Tota
	Unit Produced and Sold	8300	10300	5300
	Sales	$6,013,350	$3,090,000	$3,021,000	$12,124,350
Less	Variable Cost	$3,286,800	$2,379,300	$3,021,000	$8,687,100
	Contribution Margin	$2,726,550	$710,700	$0	$3,437,250
	Fixed Manufacturing Overhead
	Avoidable Fixed Selling & Admin Expense	$990,000	$330,000	$150,000	$1,470,000
	Unavoidable Fixed Selling Admin Expense (2298-1140)				$1,158,000
	Income Before Tax	$1,736,550	$380,700	-$150,000	$809,250

W/Note- Computation of Variable cost
	Q-Gauge	E- Gauge	R-Gauge
Direct Material	$96	$54	$153
Direct Labour	$126	$66	$186
Variable Manufacturing Overhead	$141	$96	$186
Variable Shipping Expense	$33	$15	$45
Total Variable Cost	$396	$231	$570

W/Not-2: Computation of No. of Unit Produced & Sold
Sales ( in 000)	$5,229	$3,090	$3,021
Selling Price	$630	$300	$570
No. of Unit Sales/ produced	8300	10300	5300

Hence net Impact on Before Tax will be ( -$216000 as per Original Income Statement )-($809250 as per segmental income Statement). Overal Impact in Income before tax $1025250

b. 1 Computation of Contribution Margin for R Gauge
Unit Produced & Sold	$5,300
Sales	$3,021,000
Less; Variable Cost	$3,021,000
Contribution Margin	$0

b.2. Yes, the Preseident Was correct in Proposing that the R Gauge line be eliminated because it result in reduction of loss of $150000

c. 1 Computation of Contribution per Dollar for Q-Guage Line & E Guage Line
	Q-Gauge	E- Gauge
Unit Produced & Sold	$8,300	10300
Sales	$630	300
Less: Variable Cost
Direct Material	$96	$54
Direct Labour	$126	$66
Variable Manufacturing Overhead	$141	$96
Variable Shipping Expense	$33	$15
Total Variable Cost	$396	$231
Contribution	$234	$69

c.2. Yes, The President was correct in Promoting the Q-Guage line rather than the E-Guage Line.