9-31

McNulty, Inc., produces desks and chairs. A new CFO has just been hired and announces a new policy that if a product cannot earn a margin of at least 20 percent, it will be dropped. The margin is computed as product gross profit divided by reported product cost.

Manufacturing overhead for year 1 totaled $855,000. Overhead is allocated to products based on direct labor cost. Data for year 1 show the following.

	Chairs			Desks
Sales revenue	$	1,062,600		$	2,562,500
Direct materials		599,000			950,000
Direct labor		130,000			440,000

Required:

a-1. Based on the CFO's new policy, calculate the profit margin for both chairs and desks.

a-2. Which of the two products should be dropped?

b. Regardless of your answer in requirement (a), the CFO decides at the beginning of year 2 to drop the chair product. The company cost analyst estimates that overhead without the chair line will be $800,000. The revenue and costs for desks are expected to be the same as last year. What is the estimated margin for desks in year 2?

McNulty, Inc., produces desks and chairs. A new CFO has just been hired and announces a new policy that if a product cannot earn a margin of at least 30 percent, it will be dropped. The margin is computed as product gross profit divided by reported product cost.

Manufacturing overhead for year 1 totaled $976,000. Overhead is allocated to products based on direct labor cost. Data for year 1 show the following.

	Chairs			Desks
Sales revenue	$	1,457,500		$	2,583,900
Direct materials		594,000			900,000
Direct labor		220,000			390,000

Required:

a-1. Based on the CFO's new policy, calculate the profit margin for both chairs and desks.

a-2. Which of the two products should be dropped?

b. Regardless of your answer in requirement (a), the CFO decides at the beginning of year 2 to drop the chair product. The company cost analyst estimates that overhead without the chair line will be $750,000. The revenue and costs for desks are expected to be the same as last year. What is the estimated margin for desks in year 2?