Question

The Rosa model of Mohave Corp. is currently manufactured as a very plain umbrella with no decoration. The company is considering changing this product to a much more decorative model by adding a silk-screened design and embellishments. A summary of the expected costs and revenues for Mohave’s two options follows:      

	Rosa Umbrella			Decorated Umbrella
Estimated demand		30,000	units		30,000	units
Estimated sales price	$	35.00		$	45.00
Estimated manufacturing cost per unit
Direct materials	$	22.50		$	24.50
Direct labor		5.50			8.00
Variable manufacturing overhead		4.50			6.50
Fixed manufacturing overhead		7.00			7.00
Unit manufacturing cost	$	39.50		$	46.00
Additional development cost				$	9,000

Required:
1. Determine the increase or decrease in profit if Mohave sells the Rosa Umbrella with the additional decorations.

  

2. Should Mohave add decorations to the Rosa umbrella?

	No
	Yes

3-a. Suppose that the higher price of the decorated umbrella is expected to reduce estimated demand for this product to 28,000 units. Determine the increase or decrease in profit if Mohave sells the Rosa Umbrella with the additional decorations.



3-b. Should Mohave add decorations to the Rosa umbrella?

	No
	Yes

Answer 1

1	Rosa Umbrella	Decorated Umbrella	Increase(decrease)
Sales revenue	1050000	1350000	300000
Costs:
Direct materials	675000	735000	-60000
Direct labor	165000	240000	-75000
Variable manufacturing overhead	135000	195000	-60000
Fixed manufacturing overhead	210000	210000	0
Additional development cost		9000	-9000
Total costs	1185000	1389000	-204000
Net income	-135000	-39000	96000
Net income increases by $96000
2
Yes
3a
	Rosa Umbrella	Decorated Umbrella	Increase(decrease)
Sales revenue	1050000	1260000	210000
Costs:
Direct materials	675000	686000	-11000
Direct labor	165000	224000	-59000
Variable manufacturing overhead	135000	182000	-47000
Fixed manufacturing overhead	210000	210000	0
Additional development cost		9000	-9000
Total costs	1185000	1311000	-126000
Net income	-135000	-51000	84000
Net income increases by $84000
3b
Yes