Question

Constraints Exercise

	Product A	Product B	Product C
Selling price	$180	$270	$240
Less variable expenses:          Direct materials          Other	24 102	72 90	32 148
Total variable expenses	126	162	180
Contribution margin per unit
Contribution margin per constrained resource

1.      Rank the products in order of profitability based on contribution margin per unit.

2.      Assume that the same raw materials are used in all the products and is available in limited quantities at $8 per pound. There is a limited quantity of material on hand for production for the current month, and there is a backlog on the orders for each product. If the company cannot buy additional material this month, which product should it concentrate on first? Second? Third? Why?

3. Now let’s change the facts. Assume that the company has only 3,000 lb of material on hand for this month’s production and has order backlogs as follows:

Product A          200 units

Product B.         300 units

Product C         150 units

There is not enough material on hand available to clear the entire backlog of orders; however, the company can buy the same material at a premium price from a foreign supplier. What is the maximum price per lb. that the company would be willing to pay to acquire enough material to complete all the backlog of orders this month?

Step 1.      Which product is affected by the shortfall?

Step 2.      Maximum price per lb computation.

Answer 1

Ranking based on contribution per unit

	Product A	Product B	Product C
Sales	180	270	240
Variable cost	126	162	180
Contribution	54	108	60
Ranking	iii	i	ii
Constraint
Material W/N 1	3	9	4
Contribution	18	12	15
Revised Ranking	i	iii	ii

Answer 2 Company should constraint product B as it gives least contribution per unit of material.

If deficiency still prevail then Product C can be be constrained as after Product B it has least contribution per unit of material and divert all resources to produce product A with maximum contribution per unit.

Working note 1: statement of material used per unit

Material cost/ cost per unit= unit of material used

Product A	24	8	3
Product B	72	8	9
Product C	32	8	4

Answer 3-Statement of material used

	Backlogs	Required	Available	Used	Balance
Product A	200*3	600	3000	600	2400
Product C	150*4	600	2400	600	1800
Product B	300*9	2700	1800	1800	(900)

Product B is affected by shortfall by 900lbs eg. 100 units

Maximum price company may offer= sale price- labour/ no. of units

= 270-90 = 180/9 =$20/unit