Question

Mary Poppins, a friend of yours, has recently set up a small business making curtains. She has supplied you with the following figures, and has asked your advice on a number of issues:

Costs per month	R
Materials	4 100
Labour	5 000
Production overheads	2 000
Selling and distribution overheads	1 000
Administration overheads	500

The above costs are based on producing and selling 1 200 pairs of curtains per month at a selling price of R15 each.

80% of labour costs are fixed, as are 75% of production overheads, 60% of selling and distribution overheads, and 100% of administration overheads. All other costs vary directly with output.

Mary wants to know:

1. How much profit she will make at the proposed production level and selling price?(3)

b)      How many pairs of curtains she needs to sell to break even at this price?     (3)

c)      If sales are slower than expected, by how much can she reduce her selling price in order to maintain the budgeted level of sales without making a loss?                 (4)

d)     Mary estimates her maximum capacity as 1 500 curtains: would it be worthwhile to drop the price in order to increase sales to capacity? If so, by how much?        (5)

e)    If Mary bought another machine, she could increase her production capacity to 2 500 curtains. Repayments on the machine would be R700 per month, and she would need an extra member of staff, costing R1 000 per month. She would also have to pay a bonus to all staff of 50 cents per pair of curtains, over and above their current wages, and variable production overheads would increase by 30 cents per pair of curtains.

         In order to increase sales, she would have to reduce the price: she estimates demand at different price levels to be as follows:

 

Price	Estimated monthly demand
R14	1 500
R13	2 000
3R12	2 500

  

            What would be the optimum price?                                                                      (10)

Required:

Advise Mary on each of the above points, showing your calculations, explaining both the financial and non-financial implications of each where appropriate.

Answer 1

ANSWER:

A)  

	Particulars	Amount	Amount
	Sales (1200*15)		18,000
Less	Vaiable cost:
	Direct material	4,100
	Direct Labor	1,000
	Variable Production overhead	500
	Variable Selling and distribution overhead	400	-6,000
	Contribution		12,000
Less	Fixed Cost :
	Labor	4,000
	Fixed Production overhead	1,500
	Fixed Selling and distribution overhead	600
	Fixed Administration overhead	500	-6,600
	Profit		5,400

Please find below workings for your reference

Particulars	Criteria	Variable cost	Fixed cost	Total
Material	100% Variable	4,100		4,100
Labor	20% Variable 80% Fixed	1,000	4,000	5,000
Production overhead	25% Variable 75% Fixed	500	,500	2,000
Selling and distribution overhead	40% Variable 60% Fixed	400	600	1,000
Administration overhead	100% Fixed		500	500

B) Breke even sales (units)= fixed cost/Contribution per unit

Total fixed cost =6,600

Contribution per unit = ( Sales- Variable cost) / Number of units produced and sold

=(18000-6000)/1200

= 10 per unit

Break even sales (units) =6600/10

=660 Pairs

How many pairs of curtains Mary needs to sell to break even at this price = 660 Pairs

C) How much the mary can reduce the selling price to achive current budgeted sales with out making loss

it means maximum selling price can reduce achive sales where company meets break even

Selling price can be x

1200x-6000-6600=0

so X =10.5

Maximum sellling price that can be reduced to achive budgeted sales = Current selling price - Revised selling price

=15-10.5

=4.5

D) The selling price to be fixed to achive in incresed sales level of 1500 pairs to achived same profit

The selling price can be x

1500x-7500-6600=5400

1500x=19500

Selling Price x = 13 Per Pair

So if the Mary planning to sell 1500 pairs they can sell @13 per pair to achive same budgeted profit

So Mary can reduce selling price by 2 per pair when she planning to sell 1500 pairs

Conclusion :Mary estimates her maximum capacity as 1 500 curtains: would it be worthwhile to drop the price in order to increase sales to capacity?

:YES

If so, by how much? : She Can reduce selling price by 2 per pair