Smeal College of Business Pennsylvania State University Managerial Accounting B A 521 Professor Huddart Special Electric Company The Microetching Department of Special Electric Company manufactures products A and B Product A is sold directly to industrial customers Product B is a home use version of Product A that is sold to retailers The electrocyber machine used by Microetching Department broke down on December 31 It was clear that this machine was no longer usable The Maintenance Department did not feel that they could return the machine to reasonable operating efficiency Upon receiving this information the manager of the Microetching Department immediately made a request to corporate management for the 1 100 000 that would be required to acquire and install a new machine However corporate management responded by requesting a complete analysis of the acquisition giving specific consideration to dropping the Microetching Department and selling the company s patent on the electrocyber machine The company has received an offer of 1 700 000 for this patent Investigation of the situation has provided the following information The old machine cost 750 000 three years ago and is being depreciated over five years on a straight line basis for financial reporting purposes As a broken down machine it can be sold for 40 000 but it will cost 20 000 to remove it from the premises The patent was acquired from another company three years ago for 1 600 000 and is being amortized i e written off as an expense straight line over its life for reporting purposes The patent has a remaining life of five years If the department is closed the manager would be made assistant manager of a larger department In his new post he would receive a salary of 85 000 which is 4 000 less than the company would have to pay to fill the assistant manager s position with an equally competent outsider The new machine would reduce the annual maintenance cost to 60 000 The 1 100 000 acquisition price would be depreciated straight line over the five year expected life of new machine An expected salvage value of 100 000 would be recognized in calculating depreciation for financial reporting purposes The space related costs consist of allocated charges for building c Steven Huddart 1995 2009 All rights reserved www personal psu edu sjh11 B A 521 Special Electric Company maintenance 50 depreciation 30 and property taxes 20 The department uses 6 500 square feet of space and the average annual cost per square foot for operating the building is 50 If the department is eliminated this space will be left idle for 2010 but at the end of that year demand for space by other departments will have increased sufficiently to require use of this space if available or some other similar space Similar space in an adjacent building can be rented externally at an annual cost of about 80 per square foot Special Electric has entered into a contract to move all of its operations to a new facility on January 1 2012 The new facility will be large enough to easily accommodate all of Special Electric s operations Because the facility is in a remote location there is no prospect of renting out surplus space The departmental income statement for the year just ending is Microetching Department Income Statement for the year ended December 31 2009 Product Sales units Sales orders A 2000 2000 B 2000 500 Sales 3 750 000 1 000 000 4 750 000 Variable Manufacturing Costs 1 Variable Selling Costs 2 2 600 000 600 000 400 000 150 000 3 000 000 750 000 Total Variable Costs 3 200 000 550 000 3 750 000 Contribution Margin 1 000 000 Other Costs Machine Depreciation Patent amortization Manager s salary Machine maintenance Space related costs 150 000 200 000 75 000 100 000 325 000 Total Other Costs 850 000 Departmental Income 1 2 150 000 These costs vary with the number of units produced These costs vary with the number of orders processed Page 2 Special Electric Company B A 521 To simplify calculations ignore income taxes If you choose to use Net Present Value Analysis assume the appropriate discount rate is 10 per annum Questions 1 From the shareholders perspective should the Microetching Department cease operations or should a new electrocyber machine be purchased 2 Suppose the individual making the decision is compensated on the total of Departmental Incomes for all of the Special Electric Departments after gain or loss on the disposal of assets The decision maker will retire at the end of 2010 What decision do you think that person would favor Why 3 Assume the electrocyber machine is replaced Both Product A and Product B must be processed in the electrocyber machine The machine is available for processing for 5 000 hours per year Each unit of Product A requires 2 hours in the electrocyber machine Each unit of Product B requires 0 5 hours in the electrocyber machine A one time only special order is received for 100 units of Product B at 300 per unit Budgeted sales units and dollars and costs for 2010 are identical to 2009 actual costs Variable selling costs attributable to this order would amount to 300 Should this order be accepted Suppose the decision to accept this order lies with the decision maker described in question 2 What decision do you think that person would favor Why Page 3