Question 1
Bloomeld Inc. manufactures widgets. A major piece of equipment used to make the widget is nearing the end of its useful life. The company is trying to decide whether they should lease new equipment and continue to make the widget or whether the company should accept an offer from Park Inc., an external supplier, to provide the widgets. The current costs to produce one widget, based on annual production of 40,000 units, are as follows: Direct materials $5.50 Direct labour 8.00 Variable overhead 1.20 Fixed overhead 7.30 The breakdown of the xed overhead is: ' Supervision: 51.50 ' Depreciation: $1.80 ' General overhead: $4.00 The options available to the company are as follows: 1. Rent new equipment for producing widgets for $120,000 per year. 2. Purchase the widgets from an outside supplier (Park Inc.) for $17.00. per unit. The new equipment would be more efcient than the existing equipment which would reduce the direct labour cost by 25% and the variable overhead cost by 20%. Material cost per unit would be unaffected. The cost for supervision would not change if the new equipment is purchased. If the widget is outsourced, the cost for supervision would be eliminated. The general overhead would not change under either alternative. The widget currently sells for $32.00 per unit. Required: 1. Assume that 40,000 widgets are produced each year. Which course of action would you recommend? Provide a full quantitative analysis. 2. Calculate the point of indifference between the two alternatives. 3. Assume, now, that the company can use the new equipment to produce a new product, the gadget. If produced, the gadget will have a unit selling price of 518.00. Variable costs are estimated to be $12.00 and up to 10,000 units could be produced. Under this scenario, the company would lease the new equipment to produce the gadget and outsource the production of the widget. The company feels that widget sales will increase by 5% per year into the foreseeable future while gadget sales will remain around 10,0000 units per year over the same timeframe. The same xed costs would apply under either alternative. Should the cnmham; follmu this gauge of adjhh Aurora Company manufactures and sells a single product, the gadget. Operating at capacity, the company can produce and sell 30,000 gadgets per month. Cost associated with this level of production and sales are as follows: Direct materials $450,000 Direct labou r 240,000 Variable overhead 90,000 Fixed overhead 270,000 Variable selling expense 120,000 Fixed selling expense 180,000 Gadgets normally sell for $50.00 each. Fixed manufacturing overhead is constant, on a monthly basis, within the production range of 20,000 to 30,000 gadgets per month. Required: 1. Aurora currently sells 25,000 gadgets per month. A large retail chain has offered to purchase 5,000 gadgets but at price that is 16% below the regular price. There would be no sales commission paid on this special order; which will reduce the variable selling expense by 75%. Aurora would need to lease a special machine to engrave the retail chain's name on to the gadget. The cost of this machine is $10,000 per month. There is no guarantee that any further sales orders will be received from this company. Determine the incremental income that this order would generate. Should Aurora accept the order? 2. Refer to the original data. The provincial government would like to purchase 5,000 gadgets on a one-time only basis. The government is willing to pay a fee of $1.80 per gadget, and it would reimburse Aurora for the full manufacturing cost of making the 5,000 units. There will be no variable selling expenses associated with this order. Determine the incremental income that this order would generate. Should Aurora accept the order? 3. Assume the same situation as in part 2, except that the company is currently selling 30,000 gadgets per month. The government order must be accepted in whole or not at all. What is the impact on operating income if the order is accepted
