Morning Sky, Inc. (MSI), manufactures and sells computer games. The company has several product lines based on the age range of the target market. MSI sells both individual games as well as packaged sets. All games are in CD format, and some utilize accessories such as steering wheels, electronic tablets, and hand controls. To date, MSI has developed and manufactured all the CDs itself as well as the accessories and packaging for all of its products.

The gaming market has traditionally been targeted at teenagers and young adults; however, the increasing affordability of computers and the incorporation of computer activities into junior high and elementary school curriculums has led to a significant increase in sales to younger children. MSI has always included games for younger children but now wants to expand its business to capitalize on changes in the industry. The company currently has excess capacity and is investigating several possible ways to improve profitability.

MSI is considering outsourcing the production of the handheld control module used with some of its products. The company has received a bid from Monte Legend Co. (MLC) to produce 21,000 units of the module per year for $24.00 each. The following information pertains to MSIs production of the control modules:

Direct materials	$	13
Direct labor		6
Variable manufacturing overhead		4
Fixed manufacturing overhead		5
Total cost per unit	$	28

MSI has determined that it could eliminate all variable costs if the control modules were produced externally, but none of the fixed overhead is avoidable. At this time, MSI has no specific use in mind for the space that is currently dedicated to the control module production. Required: 1a. Compute the difference in cost between making and buying the control module. b. Should MSI buy the modules from MLC or continue to make them?

	Buy
	Make

3-a. Suppose that the MSI space currently used for the modules could be utilized by a new product line that would generate $29,000 in annual profit. Recompute the difference in cost between making and buying under this scenario. 3-b. Does this change your recommendation to MSI?

	Yes
	No

MSI is considering eliminating a product from its ToddleTown Tours collection. This collection is aimed at children one to three years of age and includes tours of a hypothetical town. Two products, The Pet Store Parade and The Grocery Getaway, have impressive sales. However, sales for the third CD in the collection, The Post Office Polka, have lagged the others. Several other CDs are planned for this collection, but none is ready for production. MSIs information related to the ToddleTown Tours collection follows:

Segmented Income Statement for MSIs
ToddleTown Tours Product Lines
	Pet Store Parade			Grocery Getaway			Post Office Polka				Total
Sales revenue	$	60,000		$	55,000		$	21,000			$	136,000
Variable costs		27,000			23,000			15,000				65,000
Contribution margin	$	33,000		$	32,000		$	6,000			$	71,000
Less: Direct Fixed costs		5,200			3,700			4,100				13,000
Segment margin	$	27,800		$	28,300		$	1,900			$	58,000
Less: Common fixed costs*		12,000			11,000			4,200				27,200
Net operating income (loss)	$	15,800		$	17,300		$	(2,300	)		$	30,800

*Allocated based on total sales dollars. MSI has determined that elimination of the Post Office Polka (POP) program would not impact sales of the other two items. The remaining fixed overhead currently allocated to the POP product would be redistributed to the remaining two products. Required: a. Calculate the incremental effect on profit if the POP product is eliminated. b. Should MSI drop the POP product?

	Yes
	No

c. Calculate the incremental effect on profit if the POP product is eliminated. Suppose that $2,500 of the common fixed costs could be avoided if the POP product line were eliminated. d. Should MSI drop the POP product?

	Yes
	No

7.

value: 2.00 points

Required information

E7-8 Analyzing Sell-or-Process-Further Decision [LO 7-2, 7-6]

MSIs educational products are currently sold without any supplemental materials. The company is considering the inclusion of instructional materials such as an overhead slide presentation, potential test questions, and classroom bulletin board materials for teachers. A summary of the expected costs and revenues for MSIs two options follows:

	CD Only				CD with Instructional Materials
Estimated demand			25,000	units			25,000	units
Estimated sales price		$	21.00			$	36.00
Estimated cost per unit
Direct materials		$	1.75			$	2.25
Direct labor			3.00				6.00
Variable manufacturing overhead			3.00				6.25
Fixed manufacturing overhead			2.50				2.50
Unit manufacturing cost		$	10.25			$	17.00
Additional development cost						$	105,000

Required: 1. Based on the given data, Compute the increase or decrease in profit that would result if instructional materials were added to the CDs. 2. Should MSI add the instructional materials or sell the CDs without them?

	Sell the CDs without Instructional Materials
	Add the Instructional Materials

3-a. Suppose that the higher price of the CDs with instructional materials is expected to reduce demand to 20,000 units. Complete the table given below based on Requirement 1 and 2 data. 3-b. Should MSI add the instructional materials or sell the CDs without them?

	Sell the CDs without Instructional Materials
	Add the Instructional Materials