Product A.
During the latter half of 2015, the sales of the entire industry weakened. Even though Mamoun manufacturing company retained its share of the market, its profit for the last six months was expected to be small. In November 2015, Sam Company announced a price reduction as of January 1, 2016 on product A from $24.50 to $22.50 per 100 kilograms. This created a pricing problem for all its competitors. Majdy forecast that if the company held to the $24.50 price during the first 6 months of 2016, the companys unit sales would be $750,000. He felt that if we drop the price to $22.50, the six months unit volume would be 1 million. Majdy knew that competing companies anticipated a further decline in activity. He thought a general decline in prices of all products was quite probable. The accounting department reported that the standard costs in use would probably apply during 2016, with two exceptions: materials and supplies would be about 5% below the 2015 standard. Majdy and Mamoun discussed the pricing problem. Mamoun observed that even with the anticipated decline in material and supply costs, a sales price of $22.50 would be below cost. Mamoun therefore wanted the $24.50 price to be continued, since he felt the company could not be profitable while selling a key product below cost.
Should Mamoun Company lower as of January 1, 2016 its price of product A? To what price and why?
Exhibit 2 Analysis of income statement by products and departments-Year ended December 31, 2014 (thousands $ except per 100 Kilograms.) Product A Per 100 kgs. Product B Per 100 kgs. Product C Per 100 kgs. Classification Direct Indirect Total Allocation Basis X X Cubic space Area Value of equipment Direct labor ($) Direct labor ($) Machine horsepower Area Area X Rent Property Taxes Property Insurance Compensation Insurance Direct Labor Indirect Labor Power Light & Heat Building Service Materials Supplies Repairs Total Selling Expense General Administrative Depreciation Interest Total Cost Less: Other Income $ 1,872 621 524 836 12,937 4,413 220 158 109 7641 525 184 $30,040 9,100 3,451 5,659 524 $48,774 101 $48,673 51,672 $2,999 2,132,191 $24.50 1.08% $.88 .29 .25 .39 6.06 2.07 .11 .07 .05 3.59 .25 .08 $14.09 4.27 1.62 2.65 .25 $22.88 .04 $22.84 24.24 $1.40 $1,570 503 405 439 6,107 2,124 251 130 82 4,716 485 150 $16,962 4,582 1,300 4,274 409 $27,527 53 $27,474 25,996 (1,478) 1,029,654 $25.80 2.14% $1.53 .49 .39 42 5.92 2.06 .24 .12 .08 4.58 .46 .15 $16.44 4.44 1.26 4.16 .39 $26.69 .05 $26.64 25.23 ($1.41) $1,882 401 534 458 6,879 2,309 302 106 75 4,851 350 104 $18,251 4,701 1,783 3,658 539 $28,932 51 $1.90 .40 .53 .46 6.97 2.33 .31 .10 .08 4.91 .36 .10 $18.45 4.76 1.80 3.70 .53 $29.24 .05 $29.19 27.03 ($2.16) X X $5,324 1,525 1,463 1,733 25,921 8,846 773 394 266 17,208 1,360 438 $65,253 18,383 6,534 13,591 1,472 $105,233 205 X X $ Value of sales $ Value of sales Value of equipment Value of equipment $ Value of sales $105,028 104,338 ($690) Sales (Net) Profit (Loss) Unit Sales (100 kgs.) Quoted Selling Price Per Unit Cash Discount Taken (% of Selling Price) $28,881 26,670 ($2,211) 986,974 $27.50 1.74% 1.48% Exhibit 1 income statement for year ending December 31, 2014 (in thousands) Gross sales Cash Discount $105,905 (1.567) Net Sales Cost of Manufacturing $104,338 (65,251) $39,087 Gross profit Less: Selling Expense General Administration Depreciation $18,383 6,534 13,591 Operating Profit Plus: Other Income (38,508) $579 205 Net Profit before Interest Less: Interest $784 (1,472) Net Income ($688) Exhibit 4 Income statement by products and departments at standard and total company variances from January 1 to June 30, 2015 (Thousands $ except per 100 kgs.) Item Product A Standard Total at Per 100 kgs. Standard Product C Standard Total at Per 100 kgs. Standard Total Actual $952 201 266 231 3,496 1,168 155 Rent $.88 $877 Property Tax .29 289 Property Insurance .25 249 Compensation Insurance 39 389 Direct Labor 6.06 6,041 Indirect Labor 2.07 2,063 Power .11 109 Light & Heat .07 70 Building Service .05 50 Materials 3.59 3,579 Supplies .25 239 Repairs .08 79 Total $14.09 $14,034 Selling Expense 4.27 4,257 General Administrative 1.62 1,615 Depreciation 2.65 2,642 Interest .25 249 Total Cost $22.88 $22,797 Less: Other Income .04 40 $22.84 $22,757 Actual Sales (net) 24.24 24,164 Profit (Loss) $1.40 $1,407 Unit Sales (100 kgs.) 996,859 a: Actual unit sales times standard net revenue per unit Product B Standard Total at Per 100 kgs. Standard $1.53 $1,090 .49 349 .39 278 .42 299 5.92 4,216 2.06 1,467 .24 171 12 85 .08 57 4.58 3,216 .46 328 .15 $16.44 $11,663 4.44 3,162 1.26 897 4.16 2,962 .39 278 $26.69 $18,962 .05 36 $26.64 $18,926 25.23 17,961 ($1.41) ($965) 712,102 $1.90 .40 .53 .46 6.97 2.33 .31 .10 .08 4.91 .36 .10 $18.45 4.76 1.80 3.70 .53 $29.24 .05 $29.19 27.03 ($2.16) 501,276 107 Total Standard $2,919 839 793 919 13,753 4,698 435 205 147 9,256 747 236 $34,947 9,805 3,414 7,459 793 $56,418 101 $56,317 55,675 ($642) 50 40 2,461 180 50 $9,250 2,386 902 1,855 266 $14,659 25 $14,634 13,550 ($1,084) $2,660 770 732 917 13,820 4,485 432 200 107 9,282 750 251 $34,406 9,830 3,289 6,817 730 $55,072 110 $54,962 55,675 $713 Exhibit 3: Accounting Department's Commentary on Costs Direct Labor: Variable. Union shop at going community rates. No abnormal demands foreseen. It may be assumed that direct labor dollars are an adequate measure of capacity utilization. Compensation Insurance: Variable. Five percent of direct and indirect labor is an accurate estimate. Materials: Variable. Exhibit 2 figures are accurate. Includes waste allowances. Purchase are at market prices. Power: Variable. Rates are fixed. Use varies with activity. Averages per Exhibit 2 are accurate. Supplies: Variable. Exhibit 2 figures are accurate. Supplies bought at market prices. Repairs: Variable. Varies as volume changes within normal operation range. Lower and upper limits are fixed. General Administrative, Selling Expense, Indirect Labor, Interest, and Other income: These items are almost non-variable. They can be changed, of course, by management decision. Cash Discount: Almost non-variable. Average cash discount taker are consistent from year to year. Percentages in Exhibit 2 are accurate. Light and Heat: Almost non-variable. Heat varies slightly with fuel cost changes. Light a fixed item regardless of level of production. Property Taxes: Almost non-variable. Under the lease terms superior pays the taxes; assessed valuations have been constant; the rate has risen slowly. Any change in the near future will be small and independent of production volume. Rent: Non-variable. Lease has 12 years to run Building service: Non-variable. At normal business level, variances are small. Property Insurance: Non-variable. Three-year policy with fixed premium. Depreciation: Non-variable. Fixed dollar total. Exhibit 2 Analysis of income statement by products and departments-Year ended December 31, 2014 (thousands $ except per 100 Kilograms.) Product A Per 100 kgs. Product B Per 100 kgs. Product C Per 100 kgs. Classification Direct Indirect Total Allocation Basis X X Cubic space Area Value of equipment Direct labor ($) Direct labor ($) Machine horsepower Area Area X Rent Property Taxes Property Insurance Compensation Insurance Direct Labor Indirect Labor Power Light & Heat Building Service Materials Supplies Repairs Total Selling Expense General Administrative Depreciation Interest Total Cost Less: Other Income $ 1,872 621 524 836 12,937 4,413 220 158 109 7641 525 184 $30,040 9,100 3,451 5,659 524 $48,774 101 $48,673 51,672 $2,999 2,132,191 $24.50 1.08% $.88 .29 .25 .39 6.06 2.07 .11 .07 .05 3.59 .25 .08 $14.09 4.27 1.62 2.65 .25 $22.88 .04 $22.84 24.24 $1.40 $1,570 503 405 439 6,107 2,124 251 130 82 4,716 485 150 $16,962 4,582 1,300 4,274 409 $27,527 53 $27,474 25,996 (1,478) 1,029,654 $25.80 2.14% $1.53 .49 .39 42 5.92 2.06 .24 .12 .08 4.58 .46 .15 $16.44 4.44 1.26 4.16 .39 $26.69 .05 $26.64 25.23 ($1.41) $1,882 401 534 458 6,879 2,309 302 106 75 4,851 350 104 $18,251 4,701 1,783 3,658 539 $28,932 51 $1.90 .40 .53 .46 6.97 2.33 .31 .10 .08 4.91 .36 .10 $18.45 4.76 1.80 3.70 .53 $29.24 .05 $29.19 27.03 ($2.16) X X $5,324 1,525 1,463 1,733 25,921 8,846 773 394 266 17,208 1,360 438 $65,253 18,383 6,534 13,591 1,472 $105,233 205 X X $ Value of sales $ Value of sales Value of equipment Value of equipment $ Value of sales $105,028 104,338 ($690) Sales (Net) Profit (Loss) Unit Sales (100 kgs.) Quoted Selling Price Per Unit Cash Discount Taken (% of Selling Price) $28,881 26,670 ($2,211) 986,974 $27.50 1.74% 1.48% Exhibit 1 income statement for year ending December 31, 2014 (in thousands) Gross sales Cash Discount $105,905 (1.567) Net Sales Cost of Manufacturing $104,338 (65,251) $39,087 Gross profit Less: Selling Expense General Administration Depreciation $18,383 6,534 13,591 Operating Profit Plus: Other Income (38,508) $579 205 Net Profit before Interest Less: Interest $784 (1,472) Net Income ($688) Exhibit 4 Income statement by products and departments at standard and total company variances from January 1 to June 30, 2015 (Thousands $ except per 100 kgs.) Item Product A Standard Total at Per 100 kgs. Standard Product C Standard Total at Per 100 kgs. Standard Total Actual $952 201 266 231 3,496 1,168 155 Rent $.88 $877 Property Tax .29 289 Property Insurance .25 249 Compensation Insurance 39 389 Direct Labor 6.06 6,041 Indirect Labor 2.07 2,063 Power .11 109 Light & Heat .07 70 Building Service .05 50 Materials 3.59 3,579 Supplies .25 239 Repairs .08 79 Total $14.09 $14,034 Selling Expense 4.27 4,257 General Administrative 1.62 1,615 Depreciation 2.65 2,642 Interest .25 249 Total Cost $22.88 $22,797 Less: Other Income .04 40 $22.84 $22,757 Actual Sales (net) 24.24 24,164 Profit (Loss) $1.40 $1,407 Unit Sales (100 kgs.) 996,859 a: Actual unit sales times standard net revenue per unit Product B Standard Total at Per 100 kgs. Standard $1.53 $1,090 .49 349 .39 278 .42 299 5.92 4,216 2.06 1,467 .24 171 12 85 .08 57 4.58 3,216 .46 328 .15 $16.44 $11,663 4.44 3,162 1.26 897 4.16 2,962 .39 278 $26.69 $18,962 .05 36 $26.64 $18,926 25.23 17,961 ($1.41) ($965) 712,102 $1.90 .40 .53 .46 6.97 2.33 .31 .10 .08 4.91 .36 .10 $18.45 4.76 1.80 3.70 .53 $29.24 .05 $29.19 27.03 ($2.16) 501,276 107 Total Standard $2,919 839 793 919 13,753 4,698 435 205 147 9,256 747 236 $34,947 9,805 3,414 7,459 793 $56,418 101 $56,317 55,675 ($642) 50 40 2,461 180 50 $9,250 2,386 902 1,855 266 $14,659 25 $14,634 13,550 ($1,084) $2,660 770 732 917 13,820 4,485 432 200 107 9,282 750 251 $34,406 9,830 3,289 6,817 730 $55,072 110 $54,962 55,675 $713 Exhibit 3: Accounting Department's Commentary on Costs Direct Labor: Variable. Union shop at going community rates. No abnormal demands foreseen. It may be assumed that direct labor dollars are an adequate measure of capacity utilization. Compensation Insurance: Variable. Five percent of direct and indirect labor is an accurate estimate. Materials: Variable. Exhibit 2 figures are accurate. Includes waste allowances. Purchase are at market prices. Power: Variable. Rates are fixed. Use varies with activity. Averages per Exhibit 2 are accurate. Supplies: Variable. Exhibit 2 figures are accurate. Supplies bought at market prices. Repairs: Variable. Varies as volume changes within normal operation range. Lower and upper limits are fixed. General Administrative, Selling Expense, Indirect Labor, Interest, and Other income: These items are almost non-variable. They can be changed, of course, by management decision. Cash Discount: Almost non-variable. Average cash discount taker are consistent from year to year. Percentages in Exhibit 2 are accurate. Light and Heat: Almost non-variable. Heat varies slightly with fuel cost changes. Light a fixed item regardless of level of production. Property Taxes: Almost non-variable. Under the lease terms superior pays the taxes; assessed valuations have been constant; the rate has risen slowly. Any change in the near future will be small and independent of production volume. Rent: Non-variable. Lease has 12 years to run Building service: Non-variable. At normal business level, variances are small. Property Insurance: Non-variable. Three-year policy with fixed premium. Depreciation: Non-variable. Fixed dollar total
