Chapter 13 Demonstration Problems Page 1 Please send comments and corrections to me at [email protected] Demo 13-1 Keep or Drop. Audio Mart is a retailer of radios, stereos, and televisions. The store carries two portable sound systems that have radios, tape players, and speakers. System A, of slightly higher quality than System B, costs $20 more. It also sells headsets. Variable-costing income statements for the three products are shown below. System A System B Headset Sales $45,000 $32,500 $8,000 Less: Variable Expenses -20,000 -25,500 -3,200 Contribution Margin $25,000 $ 7,000 $4,800 Less: Fixed Costs* -10,000 -18,000 -2,700 Operating Profit $15,000 -$11,000 $2,100 * Fixed Costs include $11,000 of common fixed costs, which are allocated $5,000 to A; $5,000 to B; and $1,000 to the Headset. The owner of the store is concerned about the profit performance of System B and is considering dropping it. What are the relevant costs? Should any product be dropped? Demo 13-2 Make or Buy. Powell Dentistry Services is part of an HMO that operates in a large metropolitan area. Currently, Powell has its own dental laboratory to produce porcelain and gold crowns. The unit costs to produce the crowns are as follows: Porcelain Gold Raw Materials: $ 55 $ 94 Direct Labor: 22 22 Variable Manufacturing Overhead: 5 5 Fixed Manufacturing Overhead: 25 25 Total: $107 $146 Fixed overhead is detailed as follows: Salary (supervisor) $24,000 Depreciation 5,000 Rent (lab facility 26,000 A local dental laboratory has offered to supply Powell all the crowns it needs. Its price is $100 for porcelain crowns and $132 for gold crowns; however, the offer is conditioned on supplying both types of crowns--it will not supply just one type for the price indicated.Chapter 13 Demonstration Problems Page 2 Please send comments and corrections to me at [email protected] If the offer is accepted, the equipment used by Powell's laboratory would be scrapped (it is old and has no market value), and the lab facility would be closed. The lab facility is rented on a month-to-month basis (there are no leases to deal with). Powell uses 1,500 porcelain crowns and 1,000 gold crowns per year. REQUIRED: 1. Should Powell continue to make its own crowns or should they be purchased from the external supplier? What is the dollar effect of purchasing? 2. What qualitative factors should Powell consider in making this decision? 3. Suppose that the lab facility is owned rather than rented and that the $26,000 is depreciation rather than rent. What effect does this have on the analysis in Requirement 1? 4. What would your answer in #3 be if you could rent the lab facility for $15,000. 5. Refer to the original data. Assume that the volume of crowns is 3,000 porcelain and 2,000 gold. Should Powell make or buy the crowns? Explain the outcome. Demo 13-3 Sell or Process Further. Rudolph Drug Corporation buys three chemicals that are processed to produce 2 types of analgesics used as ingredients for popular over-the-counter drugs. The purchased chemicals are blended for 2 to 3 hours and then heated for 15 minutes. The results of the process are 2 separate analgesics, Tyl and Buff, which are sent to a drying room until their moisture content is reduced to 6 to 8 percent. For every 1,100 pounds of chemicals used, 500 pounds of Tyl and 500 pounds of Buff are produced. After drying, Tyl and Buff are sold to companies that process them into their final form. The selling prices are $10 per pound for Tyl and $25 per pound for Buff. The costs to produce 500 pounds of each analgesic are as follows: Chemicals $5,500 Direct Labor 4,500 Manufacturing Overhead 3,500 The analgesics are packaged in 25-pound bags and shipped. The cost of each bag is $0.75. Shipping costs $0.10 per pound. Rudolph Company could process Tyl further by grinding it into a fine powder and then molding the powder into tablets. The tablets can be sold directly to retail drug stores as a generic brand. If this route is taken, the revenue received per bottle of tablets would be $3.00, with 5 bottles produced by every pound of tyl. The costs of grinding and tableting total $2.50 per pound of Tyl. Bottles cost $0.20 each. Bottles are shipped in boxes that hold 25 at a shipping cost of $1.23 per box.Chapter 13 Demonstration Problems Page 3 Please send comments and corrections to me at [email protected] REQUIRED: 1. Should Rudolph sell Tyl at split-off or should Tyl be processed and sold as tablets? 2. If Rudolph normally sells 265,000 pounds of Tyl per year, what will be the difference in profits if Tyl is processed further? Demo 13-4 Special Order. Kevin McBride, manager of an electronics division was considering an offer by Ellen Antle, manager of a sister division. Ellen's division was operating below capacity and had just been given an opportunity to produce 10,000 units of one of its products for a customer in a market not normally served. Ellen still will have excess capacity even if she accepts the special order. The opportunity involves a product that uses an electrical component produced by Kevin's division. Each unit that Ellen's department produces requires one of Kevin’s components. However, the price the customer is willing to pay is well below the price usually charged. To make a reasonable profit on the order, Ellen needed a price concession from Kevin's division. Ellen had offered to pay full manufacturing cost for the parts. So that Kevin would know that everything was above board, Ellen had supplied the following unit-cost and price information concerning the special order, excluding the cost of the electrical component: Selling price $32.00 Less costs: Direct Materials 17.00 Direct Labor 7.00 Variable Manufacturing Overhead 2.00 Fixed Manufacturing Overhead 3.00 Kevin’s Component 3.20 Total Costs: -32.20 Gross Profit: -20¢ The normal selling price of Kevin’s component is $3.20 per unit. Its full manufacturing cost is $2.50 ($2.10 variable and 40¢ fixed). Ellen had argued that paying $3.20 per component would wipe out the gross profit and result in her division
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