Activity 3 Quantitative tools (45 minutes)

Part 1

Read through the following scenarios and select the appropriate tool(s) to analyze the issues at hand. Do not complete Part 2 until instructed to do so. Document the appropriate quantitative tool in the table below for submission:

Quantitative tool:

Scenario 1

Scenario 2

Scenario 3

Scenario 4

Part 2

Apply the appropriate tool to analyze each scenario. Document your calculations for each of the four scenarios in the Activity 3 Excel file provided.

Scenario 1

Skyview Corp., a wholesale roofing supply company, uses independent sales agents to market its products. These agents currently receive a commission of 20% of sales but are demanding an increase to 25% of sales. Skyview had already prepared its budget for next year before learning of the sales agents' demand for an increase in commissions. See below for the budgeted income statement:

Skyview Corp.

Budgeted income statement

Sales $10,000,000

Cost of sales 6,000,000

Gross margin 4,000,000

Selling and administrative expenses:

Commission $2,000,000

All other expenses (fixed) 100,000 2,100,000

Operating income $1,900,000

Skyview is considering the possibility of employing its own salespeople, rather than using independent agents. Three employees would be required, at a salary of $30,000 each plus commissions of 5% of sales. In addition, a sales manager would be employed at a fixed annual salary of $160,000.

The management team would like to know the sales value at which point it becomes irrelevant to the company's profit which option it uses.

Scenario 2

Reliable Corp. has been offered a seven-year contract to supply a part for the military. The annual pre-tax cash flow from the contract is expected to be $90,000.

In order to take on the contract and manufacture the part, Reliable would need to purchase new manufacturing equipment for $300,000. In addition, it would need $50,000 in working capital to invest in new inventory.

It is not expected that the contract would be extended beyond the initial contract period. The company's after-tax cost of capital is 10%, and its tax rate is 30%.

At the end of the contract, the salvage value of the manufacturing equipment would be $10,000. The present value of the capital cost allowance (CCA) tax shield on the equipment is $81,818. There is no present value of the tax shield on the salvage value in the year of disposition as the equipment is eligible for a 100% CCA deduction in the year of purchase.

Assume initial outlays occur immediately and that annual cash flows occur at the end of the period.

Quantitatively, determine whether or not the contract should be accepted.

Scenario 3

Edge Bakery supplies high-volume grocery chains with baked goods. It has three types of pie (apple, blueberry, and strawberry) but just one mixing machine. See below for data concerning these products and demand on the mixing machine.

The total time required for all products is 26,700 minutes.

The company is concerned about possible capacity issues, as only 20,000 mixing machine minutes are available. Given this limitation, it would like to maximize operating income.

Apple pie Blueberry pie Strawberry pie

Selling price per unit $67.90 $57.70 $43.90

Direct materials $12.10 $10.30 $8.60

Direct labour $14.10 $8.00 $6.80

Variable manufacturing overhead $2.60 $2.20 $1.80

Variable selling cost per unit $2.50 $2.20 $2.50

Minutes per unit 2.7 3.3 4.7

Monthly demand in units 1,000 3,000 3,000

r

Demand on mixing machine:

Apple pie Blueberry pie Strawberry pie

Minutes per unit 2.7 3.3 4.7

Monthly demand in units 1,000 3,000 3,000

Total minutes required 2,700 9,900 14,100

Scenario 4

Dynamic Toys manufactures and sells a line of toys that are primarily distributed through department stores. As the controller for Dynamic Toys, you want to analyze Dynamic Toys' profitability. See below for key data and a static budget that was created by your assistant controller.

The management team would like to better understand why they did not meet their budget given that they had higher sales than anticipated.

Dynamic Toys

Actual results Flexible budget Static/master budget

Units sold 10,000 10,000 9,000

Selling price, per unit $21 $20 $20

Revenue (sales) 210,000 200,000 180,000

Variable expenses:

Manufacturing 120,000 110,000 99,000

Marketing and administration

(Note 1) 11,550 10,000 9,000

Total variable expenses 131,550 120,000 108,000

Contribution margin 78,450 80,000 72,000

Fixed expenses:

Manufacturing 36,000 34,500 34,500

Marketing and administration 44,000 40,000 40,000

Total fixed expenses 80,000 74,500 74,500

Operating income (loss) $(1,550) $5,500 $(2,500)

Note 1: The marketing and administration cost for the static/master budget was assumed to be 5% of sales.