Exam 4: Fundamentals of Cost Analysis for Decision Making

The Rapid Delivery Service is considering the expansion of its business into afternoon retail delivery service.This would require an additional $25,000 in labor costs per month.Company-owned vehicles now used to make morning deliveries to local manufacturers could be used in the afternoons to make retail deliveries.However,it is estimated that an additional $10,000 would be required per month for gas,oil,and maintenance.It is further estimated that the retail delivery use of the trucks would be allocated 45% of the existing $13,000 fixed vehicle costs.What is the differential delivery cost per month for expanding into the retail delivery market?

A target cost is computed as:

The following information relates to the Jasmine Company for the upcoming year. Amount Per Unit Sales \ 8,000,000 \ 20.00 Cost of goods sold 6,400,000 16.00 Gross margin 1,600,000 4.00 Operating expenses 600,000 1.50 Operating profits \ 1,000,000 \ 2.50 The cost of goods sold includes $2,400,000 of fixed manufacturing overhead;the operating expenses include $200,000 of fixed marketing expenses.A special order offering to buy 50,000 units for $15.00 per unit has been made to Jasmine.Fortunately,there will be no additional operating expenses associated with the order and Jasmine has sufficient capacity to handle the order.How much will operating profits increase if Jasmine accepts the special order?

The operations of Winston Corporation are divided into the Blink Division and the Blur Division.Projections for the next year are as follows: Blink Division Blur Division Total Sales \ 280,000 \ 168,000 \ 448,000 Variable costs 98,000 77,000 175,000 Contribution margin \ 182,000 \ 91,000 \ 273,000 Direct fixed costs 84,000 70,000 154,000 Segment margin \ 98,000 \ 21,000 \ 119,000 Allocated common costs 42,000 31,500 73,500 Operating income (loss) \ 56,000 (\ 10,500) \ 45,500 If the Blur Division were dropped,Blink Division's sales would increase by 30%.If this happened,the operating income for Winston Corporation as a whole would be:

Explain what is meant by "the full-cost fallacy" in making pricing decisions.

Darren Company produces three products with the following costs and selling prices: If Darren has a limit of 30,000 machine hours but no limit on units sold or direct labor hours,then the ranking of the products from the most profitable to the least profitable use of the constrained resource is:

Douglas Corporation produces and sells three products.The three products,Alpha,Beta,and Gamma,are sold in a local market and in a regional market.At the end of the first quarter of the current year,the following income statement (in thousands of dollars)has been prepared: Total Local Regional Sales revenue \ 5,200 \ 4,000 \ 1,200 Cost of goods sold 940 Gross margin 1,160 900 260 Marketing costs 420 240 180 Administrative costs Operating profits \ 32 Management has expressed special concern with the regional market because of the extremely poor return on sales.This market was entered a year ago because of excess capacity.It was originally believed that the return on sales would improve with time,but after a year,no noticeable improvement can be seen from the results as reported in the above quarterly statement.In attempting to decide whether to eliminate the regional market,the following information has been gathered: Procucts Alpha Beta Gamma Sales revenue \ 2,000 \ 1,600 \ 1,600 Variable manufacturing 60\% 70\% 60\% cost \% of sales Variable marketing cost 3\% 2\% 2\% Procuct Sales by Markets Local Regional Alpha \ 1,600 \ 400 Beta 1,200 400 Gamma 1,200 400 All administrative costs and fixed manufacturing costs are common to the three products and the two markets and are fixed for the period.Remaining marketing costs are fixed for the period and separable by market.All fixed costs have been arbitrarily allocated to markets.Required: (a. )Assuming there are no alternative uses for the Douglas Corporation's present capacity,would you recommend dropping the regional market? Why or why not? (b. )Prepare the quarterly income statement showing contribution margins by products.Do not allocate fixed costs to products.(c. )It is believed that a new product can be ready for sale next year if the Douglas Corporation decides to go ahead with continued research.The new product can be produced by simply converting equipment presently used in producing product Gamma.This conversion will increase fixed costs by $40,000 per quarter.What must be the minimum contribution margin per quarter be for the new product to make the changeover financially feasible?

When deciding whether or not to accept a special order,a decision-maker should focus on differential costs instead of full costs.

The operations of Ranger Corporation are divided into the Stargate Division and the Cosmos Division.Projections for the next year are as follows: Stargate Disision Cosmos Division Total Sales \ 500,000 \ 360,000 \ 860,000 Less: Variable Costs 180,000 200,000 380,000 Contribution Margin \ 320,000 \ 160,000 \ 480,000 Less: Direct Fixed Costs 150,000 125,000 275,000 Segment Margin \ 170,000 \ 36,000 \ 205,000 Less: Allocated Common 70,000 55,000 125,000 Costs Operating Income (Loss) \ 100,000 (\ 20,000) \ 80,000 Operating income for Ranger Corporation,as a whole,if the Cosmos Division were dropped would be

The full cost fallacy occurs when a decision-maker fails to include fixed manufacturing overhead in the product's cost.

Giant Inc has 3,600 machine hours available each month.The following information on the company's three surgical kits is available: Surgical Kit 1 Surgica Kit 2 Surgical Kit 3 Contribution margin per unit \ 5.00 \ 4.00 \ 2.50 Machine hours per unit 2 1 3 Sales demand in units 1,000 800 900 Required: a.What production schedule will maximize the company's profits? b.What will be the maximum possible contribution margin?

The Fair Play Division of Fast Company produces wheels for off-road sport vehicles.One-half of Fair Play's output is sold to the Glow Division of Fast;the remainder is sold to outside customers.Fair Play's estimated operating profit for the year is: Intemal Outside Sales \ 300,000 \ 400,000 Variable costs 200,000 200,000 Fixed costs 60,000 60,000 Operating profits \ 40,000 \ 140,000 Unit sales 20,000 20,000 Glow Division has an opportunity to purchase 20,000 wheels of the same quality from an outside supplier on a continuing basis.Required: a.The Fair Play Division cannot sell any additional products to outside customers.Should the Fast Company allow Glow Division to purchase the wheels from the outside supplier at $13.00 per unit? b.If the Fair Play Division is now operating at full capacity and can sell all its units to outside customers at the present selling price,what is the differential cost to Fast of requiring that the wheels be made internally and sold to Glow Division? c.If the Fair Play Division is now operating at full capacity and can sell all its units to outside customers at the present selling price,what is the minimum selling price that Fair Play should accept from Glow Division? d.The Fair Play Division cannot sell any additional products to outside customers.What is the minimum selling price that Fair Play should accept from the Glow Division?

The Widner Company manufactures two products: Stainless Serving Spoons and Stainless Serving Forks.The costs and revenues are as follows: Spoons Forks Sales price \ 150 \ 88 Variable cost per unit 80 42 Total demand for Spoons is 14,000 units and for Forks is 9,000 units.Machine time is a scarce resource.During the year,54,000 machine hours are available.Spoons requires 5 machine hours per unit,while Forks requires 3 machine hours per unit.How many units of Spoons and Forks should Widner produce? Spoons Forks A. 14,000 0 B. 8,307 4,154 C. 10,800 0 D. 5,400 9,000

Liu Inc.is considering whether to continue to make a component or to buy it from an outside supplier.The company uses 13,000 of the components each year.The unit product cost of the component according to the company's cost accounting system is given as follows: Direct materials \ 8.80 Direct labor 5.80 Variable manufacturing overhead 1.60 Fixed manufacturing overhead 3.60 Unit product cost \ 19.80 Assume that direct labor is a variable cost.Of the fixed manufacturing overhead,30% is avoidable if the component were bought from the outside supplier.In addition,making the component uses 1 minute on the machine that is the company's current constraint.If the component were bought,this machine time would be freed up for use on another product that requires 2 minutes on the constraining machine and that has a contribution margin of $5.20 per unit.When deciding whether to make or buy the component,what cost of making the component should be compared to the price of buying the component? (CIMA adapted)

The practice of setting prices highest when the quantity demanded for the product approaches capacity:

The operations of Balance Corporation are divided into the Kaplan Division and the Norton Division.Projections for the next year are as follows: Kaplan Division Norton Division Total Sales \ 1,200,000 \ 600,000 \ 1,800,000 Variable costs 480,000 360,000 840,000 Contribution margin \ 720,000 \ 240,000 \ 960,000 Direct fixed costs 160,000 90,000 250,000 Segment margin \ 560,000 \ 150,000 \ 710,000 Allocated common costs 360,000 180,000 540,000 Operating income (loss) \ 200,000 \ 30,000) \ 170,000 Required: a.Operating income for Balance Corporation as a whole if the Norton Division were dropped would be b.If the Norton Division were dropped,Kaplan Division's sales would increase by 45%.If this happened,the operating income for Balance Corporation as a whole would be:

A decision must involve at least two alternative courses of action.

Part XE3 is used in one of Sun Corporation's products.The company's Accounting Department reports the following costs of producing the 12,000 units of the part that are needed every year.An outside supplier has offered to make the part and sell it to the company for $14.70 each.If this offer is accepted,the supervisor's salary and all of the variable costs,including direct labor,can be avoided.The special equipment used to make the part was purchased many years ago and has no salvage value or other use.The allocated general overhead represents fixed costs of the entire company.If the outside supplier's offer were accepted,only $5,000 of these allocated general overhead costs would be avoided.Required: a.Prepare a report that shows the effect on the company's total net operating income of buying part XE3 from the supplier rather than continuing to make it inside the company.b.Which alternative should the company choose? Per Unit Direct materials \ 4.50 Direct labor \ 1.20 Variable overhead \ 2.70 Superisor's salary \ 3.00 Depreciation of special equipment \ 2.30 Allocated general overhead \ 1.80

The Morris Company manufactures wiring tools.The company is currently producing well below its full capacity.The Baker Company has approached Morris with an offer to buy 5,000 tools at $17.50 each.Morris sells its tools wholesale for $18.50 each;the average cost per unit is $18.30,of which $2.70 is fixed costs.Required: a.If Morris were to accept Baker's offer,what would be the increase in Miller's operating profits? b.Assume that Morris is operating at full capacity.If Morris were to accept Baker's offer,what would be the change in Morris' operating profits?

In the short-run,plant capacity is fixed and product choices have to be made that optimize the use of available capacity.