Question

ONLY REQ 4A-D AND REQ 5

Andretti Company has a single product called a Dak. The company normally produces and sells 86,000 Daks each year at a selling price of $46 per unit. The company’s unit costs at this level of activity are given below:

Direct materials	$	9.50
Direct labor		8.00
Variable manufacturing overhead		2.40
Fixed manufacturing overhead		9.00	($774,000 total)
Variable selling expenses		3.70
Fixed selling expenses		3.50	($301,000 total)
Total cost per unit	$	36.10

A number of questions relating to the production and sale of Daks follow. Each question is independent.

Required:

1-a. Assume that Andretti Company has sufficient capacity to produce 116,100 Daks each year without any increase in fixed manufacturing overhead costs. The company could increase its unit sales by 35% above the present 86,000 units each year if it were willing to increase the fixed selling expenses by $150,000. What is the financial advantage (disadvantage) of investing an additional $150,000 in fixed selling expenses?

1-b. Would the additional investment be justified?

2. Assume again that Andretti Company has sufficient capacity to produce 116,100 Daks each year. A customer in a foreign market wants to purchase 30,100 Daks. If Andretti accepts this order it would have to pay import duties on the Daks of $2.70 per unit and an additional $15,050 for permits and licenses. The only selling costs that would be associated with the order would be $2.30 per unit shipping cost. What is the break-even price per unit on this order?

3. The company has 400 Daks on hand that have some irregularities and are therefore considered to be "seconds." Due to the irregularities, it will be impossible to sell these units at the normal price through regular distribution channels. What is the unit cost figure that is relevant for setting a minimum selling price?

4. Due to a strike in its supplier’s plant, Andretti Company is unable to purchase more material for the production of Daks. The strike is expected to last for two months. Andretti Company has enough material on hand to operate at 25% of normal levels for the two-month period. As an alternative, Andretti could close its plant down entirely for the two months. If the plant were closed, fixed manufacturing overhead costs would continue at 40% of their normal level during the two-month period and the fixed selling expenses would be reduced by 20% during the two-month period.

a. How much total contribution margin will Andretti forgo if it closes the plant for two months?

b. How much total fixed cost will the company avoid if it closes the plant for two months?

c. What is the financial advantage (disadvantage) of closing the plant for the two-month period?

d. Should Andretti close the plant for two months?

5. An outside manufacturer has offered to produce 86,000 Daks and ship them directly to Andretti’s customers. If Andretti Company accepts this offer, the facilities that it uses to produce Daks would be idle; however, fixed manufacturing overhead costs would be reduced by 30%. Because the outside manufacturer would pay for all shipping costs, the variable selling expenses would be only two-thirds of their present amount. What is Andretti’s avoidable cost per unit that it should compare to the price quoted by the outside manufacturer?

Answer 1

1.a. Financial advantage: $ 524,240

Contribution margin per unit = $ 46 - $ ( 9.50 + 8 + 2.40 + 3.70) = $ 22.40

Increase in sales volume = 86,000 x 35% = 30,100

Financial advantage ( disadvantage) of investing additional $ 150,000 in fixed selling expenses = 30,100 x $ 22.40 - $ 150,000 = $ 524,240.

1b. Yes, the additional investment would be justified.

2. Total cost associated with the special order:

	$
Direct Materials( 30,100 x $9.50)	285,950
Direct Labor ( 30,100 x $ 8.00)	240,800
Variable Manufacturing Overhead ( 30,100 x 2.40)	72,240
Variable Selling Expenses ( 30,100 x 2.30)	69,230
Import Duties ( 30,100 x $ 2.70)	81,270
Permits and Licenses	15,050
Total Cost	764,540

Break-even price per unit on this order = $ 764,540 / 30,100 = $ 25.40

3. The variable selling expense of $ 3.70 per unit is the only relevant cost, as the cost of producing these 400 daks is a sunk cost, and not relevant for decision making. The fixed manufacturing and selling expenses too are not relevant as these would be incurred regardless of whether the defective items get sold or not.

4.

	Continue Operations	Close Plant	Increase ( Decrease) in Operating Income
Sales ( 86,000 / 12 x 2 x 25% x $ 46)	164,818	0	(164,818)
Variable Expenses	84,559	0	84,559
Contribution Margin	80,259	0	(80,259)
Fixed Manufacturing Costs	129,000	51,600	77,400
Fixed Selling Expenses	50,167	40,134	10,033
Net Operating Income ( Loss)	(98,908)	(91,734)	7,174

a. Total Contribution that Adretti will forego = 86,000 / 12 x 2 x 25% x $ 22.40 = $ 80,259

b. Total fixed cost to be avoided = $ 77,400 + $ 10,033 = $ 87,433.

c. Financial advantage ( disadvantage) of closing the plant for two months = Fixed Costs Avoided - Contribution Margin Lost = $ 87,433 - $ 80,259 = $ 7,174

d. Yes, Andretti should close the plant for two months.

5. Avoidable cost: $ 23.83.

	$
Variable Manufacturing Cost	19.90
Variable Selling Expenses ( $ 3.70 x 1/3)	1.23
Fixed Manufacturing Cost per Unit ( $ 774,000 x 30%) / 86,000	2.70
Total Relevant Cost	23.83