Question

Birch Company normally produces and sells 41,000 units of RG-6 each month. The selling price is $20 per unit, variable costs are $10 per unit, fixed manufacturing overhead costs total $155,000 per month, and fixed selling costs total $50,000 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 9,000 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 $48,000 per month and its fixed selling costs by 10%. Start-up costs at the end of the shutdown period would total $15,000. 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

1	Contribution per unit=Selling price-Variable costs=20-10=10
	Financial advantage/(Disadvantage) if plant closes for two months:
	Contribution lost		(9000*10*2)			-180000
	Avoidable costs:
	fixed manufacturing overhead				(48000*2)	96000
	fixed selling costs		(50000*10%*2)			10000
	Additional cost:
	Startup cost					-15000
	Financial (Disadvantage)					-89000
2	Birch should not close the plant for 2 months since it will result in a financial disadvantage of $89000.
3	Indifferent point=Net Avoidable cost/Contribution per unit
	Avoidable costs:
	fixed manufacturing overhead			96000
	fixed selling costs			10000
				106000
	Less: Strtup cost			15000
	Net avoidable costs			91000
	Indifferent point=91000/10=9100 units