Question

Cane Company manufactures two products called Alpha and Beta that sell for $120 and $80, respectively. Each product uses only one type of raw material that costs $6 per pound. The company has the capacity to annually produce 100,000 units of each product. Its average cost per unit for each product at this level of activity are given below:

The information in the first paragraph in the text is to be used to solve problems 1 through 15. The information regarding unit costs is substituted for the information given below.

                                                                                                ALPHA           BETA

Variable costs:

Direct material……………………………………………………$27                 $9

Direct labor………………………………………………………..$21 $18

Variable manufacturing overhead………………………...........$9 $6

Variable selling expenses………………………………….........$10 $6

Total per unit variable cost......................................................$67                  $39

Traceable fixed manufacturing overhead cost.........................$15                 $18

Common fixed cost…………………………………………….....$14 $12

The per unit fixed costs are based on production and sales of 100,000 units.

1. What is the total amount of traceable fixed manufacturing overhead for each of the two products?
2. What is the company’s total amount of common fixed expenses?
3. Assume that Cane expects to produce and sell 80,000 Alphas during the current year. One of Cane’s sales representatives has found a new customer who is willing to buy 10,000 additional Alphas for a price of $80 per unit. What is the financial advantage (disadvantage) of accepting the new customer’s order?

4. Assume that Cane expects to produce and sell 90,000 Betas during the current year. One of Cane’s sales representatives has found a new customer who is willing to buy 5,000 additional Betas for a price of $39 per unit. What is the financial advantage (disadvantage) of accepting the new customer’s order?

5. Assume that Cane expects to produce and sell 95,000 Alphas during the current year. One of Cane’s sales representatives has found a new customer who is willing to buy 10,000 additional Alphas for a price of $80 per unit; however pursuing this opportunity will decrease Alpha sales to regular customers by 5,000 units. What is the financial advantage (disadvantage) of accepting the new customer’s order?

6. Assume that Cane normally produces and sells 90,000 Betas per year. What is the financial advantage (disadvantage) of discontinuing the Beta product line?

7. Assume that Cane normally produces and sells 40,000 Betas per year. What is the financial advantage (disadvantage) of discontinuing the Beta product line?

8. Assume that Cane normally produces and sells 60,000 Betas and 80,000 Alphas per year. If Cane discontinues the Beta product line, its sales representatives could increase sales of Alpha by 15,000 units. What is the financial advantage (disadvantage) of discontinuing the Beta product line?

9. Assume that Cane expects to produce and sell 80,000 Alphas during the current year. A supplier has offered to manufacture and deliver 80,000 Alphas to Cane for a price of $80 per unit. What is the financial advantage (disadvantage) of buying 80,000 units from the supplier instead of making those units?
10. Assume that Cane expects to produce and sell 50,000 Alphas during the current year. A supplier has offered to manufacture and deliver 50,000 Alphas to Cane for a price of $80 per unit. What is the financial advantage (disadvantage) of buying 50,000 units from the supplier instead of making those units?
11. How many pounds of raw material are needed to make one unit of each of the two products?
12. What contribution margin per pound of raw material is earned by each of the two products?
13. Assume that Cane’s customers would buy a maximum of 80,000 units of Alpha and 60,000 units of Beta. Also assume that the raw material available for production is limited to 160,000 pounds. How many units of each product should Cane produce to maximize its profits?
14. If Cane follows your recommendation in requirement 13, what total contribution margin will it earn?
15. If Cane uses its 160,000 pounds of raw materials as you recommended in requirement 13, up to how much should it be willing to pay per pound for additional raw materials?

Answer 1

1. Amount of traceable fixed manufacturing overhead for each of the two products

Average cost for each product is given which is for 100,000 units.

Traceable fixed manufacturing overhead cost for Alpha = Traceable fixed manufacturing overhead cost per unit * 100,000 units = $15* 100,000 units = $1,500,000

Traceable fixed manufacturing overhead cost for beta = Traceable fixed manufacturing overhead cost per unit * 100,000 units = $18* 100,000 units = $1,800,000

2.Total amount of common fixed expenses

Total amount of common fixed expenses = ( Common fixed expenses cost per unit of Alpha + Common fixed expenses cost per unit of Beta ) * 100,000 units = ( $14 + $12 ) * 100,000 units = $2,600,000.

3. Cane expects to produce and sell 80,000 units of Alpha, therefore, supplying to a new customer will not result in extra fixed overhead as its current capacity is for 100,000 units. Even if he rejects the order he will still incur the fixed overhead cost.

Financial advantage from acceptance of order of 10,000 units @ $80 per unit = ( Selling Price per unit - Variable cost per unit ) * 10,000 units = ( $80 - $67 ) * 10,000 units = $130,000.

4. If the new customer is willing to buy Beta @39

Financial advantage from acceptance of order of 5,000 units @ $39 per unit = ( Selling Price per unit - Variable cost per unit ) * 10,000 units = ( $39 - $39 ) * 5,000 units = $0.

Currently, Cane is expecting to sell 90,000 units of Beta, therefore, selling additional 5,000 units of Beta will not result in extra fixed overhead cost.

5. If currently, Cane expects to sell 95,000 units of Alpha and a new customer for additional 10,000 units is willing to pay $80 only, then Cane will only be able to sell 90,000 units to regular customers. This means he will lose contribution on 5,000 units.

Financial advantage of accepting the customers order = Contribution from new customer's order - Contribution lost from 5,000 units

Contribution from new customer's order = ( Selling Price per unit - Variable cost per unit ) * 10,000 units = ( $80 - $67 ) * 10,000 units = $130,000.

Contribution lost on 5,000 units = ( Selling Price per unit - Variable cost per unit ) * 5,000 units = ( $120 - $67 ) * 5,000 units = $265,000.

Fixed overhead cost will not be considered as it is sunk cost which will be incurred irrespective of the fact that the order from new customer is accepted or rejected.

Financial advantage of accepting the customers order = Contribution from new customer's order - Contribution lost from 5,000 units = $130,000 - $265,000 = -$135,000.

6. Cane produces and sells 90,000 Betas per year

Total Fixed cost = ( Traceable fixed manufacturing overhead cost per unit + Common fixed cost per unit ) * 100,000 units = ( $18 + $12 ) * 100,000 units = $3,000,000

Financial disadvantage from discontinuing the Beta product line :

Particulars	Amount
Sales revenue (90,000 units @ $80 each)	$7,200,000
Less: Total variable costs ( 90,000 units @ $39 each)	$3,510,000
Total contribution	$3,690,000
Less: Total fixed cost	$3,000,000
Net revenue	$690,000

Financial disadvantage of $690,000 will be there to Cane discontinues the Beta product line.

7. Cane produces and sells 40,000 Betas per year

Particulars	Amount
Sales revenue (40,000 units @ $80 each)	$3,200,000
Less: Total variable costs ( 40,000 units @ $39 each)	$1,560,000
Total contribution	$1,640,000
Less: Total fixed cost	$3,000,000
Net revenue	-$1,360,000

Financial advantage of $1,360,000 will be there to Cane discontinues the Beta product line.