Storage Systems, Inc., sells a wide range of drums, bins, boxes, and other containers that are used in the chemical industry. One of the companys products is a heavy-duty corrosion-resistant metal drum, called the XSX drum, used to store toxic wastes. Production is constrained by the capacity of an automated welding machine that is used to make precision welds. A total of 2,300 hours of welding time are available annually on the machine. Because each drum requires 0.8 hours of welding time, annual production is limited to 2,875 drums. At present, the welding machine is used exclusively to make the XSX drums. The accounting department has provided the following financial data concerning the XSX drums:

	XSX Drums
Selling price per drum		$	178.00
Cost per drum:
Direct materials	$ 46.50
Direct labor ($18 per hour)	4.50
Manufacturing overhead	5.15
Selling and administrative expense	17.40		73.55
Margin per drum		$	104.45

Management believes 3,375 XSX drums could be sold each year if the company had sufficient manufacturing capacity. As an alternative to adding another welding machine, management has looked into the possibility of buying additional drums from an outside supplier. Metal Products, Inc., a supplier of quality products, would be able to provide up to 2,000 XSX-type drums per year at a price of $120 per drum, which Storage Systems would resell to its customers at its normal selling price after appropriate relabeling.

Jasmine Morita, Storage Systems production manager, has suggested that the company could make better use of the welding machine by manufacturing premium mountain bike frames, which would require only 0.2 hours of welding time per frame. Jasmine believes that Storage Systems could sell up to 3,800 mountain bike frames per year to mountain bike manufacturers at a price of $78 per frame. The accounting department has provided the following data concerning the proposed new product:

Mountain Bike Frames
Selling price per frame		$	78.00
Cost per frame:
Direct materials	$ 19.50
Direct labor ($18 per hour)	22.50
Manufacturing overhead	17.75
Selling and administrative expense	8.50		68.25
Margin per frame		$	9.75

The mountain bike frames could be produced with existing equipment and personnel. Manufacturing overhead is allocated to products on the basis of direct labor-hours. Most of the manufacturing overhead consists of fixed common costs such as rent on the factory building, but some of it is variable. The variable manufacturing overhead has been estimated at $1.25 per XSX drum and $2.60 per mountain bike frame. The variable manufacturing overhead cost would not be incurred on drums acquired from the outside supplier.

Selling and administrative expenses are allocated to products on the basis of revenues. Almost all of the selling and administrative expenses are fixed common costs, but it has been estimated that variable selling and administrative expenses amount to $1.05 per XSX drum and would be $2.40 per mountain bike frame. The variable selling and administrative expenses of $1.05 per drum would be incurred when drums acquired from the outside supplier are sold to the companys customers.

All of the companys employeesdirect and indirectare paid for full 40-hour workweeks and the company has a policy of laying off workers only in major recessions.

Required:
2.	Compute the contribution margin per unit for [assume direct labor is a fixed cost]: (Do not round intermediate calculations and round your answers to 2 decimal places.)

		Contribution Margin per unit
a.	Purchased XSX drums	$
b.	Manufactured XSX drums	$
c.	Manufactured mountain bike frames	$

3.

As soon as your analysis was shown to the top management team at Storage Systems, several managers got into an argument concerning how direct labor costs should be treated when making this decision. One manager argued that direct labor is always treated as a variable cost in textbooks and in practice and has always been considered a variable cost at Storage Systems. After all, direct means you can directly trace the cost to products. If direct labor is not a variable cost, what is? Another manager argued just as strenuously that direct labor should be considered a fixed cost at Storage Systems. No one had been laid off in over a decade, and for all practical purposes, everyone at the plant is on a monthly salary. Everyone classified as direct labor works a regular 40-hour workweek and overtime has not been necessary since the company adopted Lean Production techniques. Whether the welding machine is used to make drums or frames, the total payroll would be exactly the same. There is enough slack, in the form of idle time, to accommodate any increase in total direct labor time that the mountain bike frames would require.

a.	Compute the contribution margin per welding hour for [assume direct labor is a fixed cost]:(Round your intermediate calculations and final answers to 2 decimal places.)

	Manufactured XSX Drums	Manufactured Mountain Bike Frames
Contribution margin per welding hour	$ per hour	$ per hour

b.

Determine the number of XSX drums (if any) that should be purchased and the number of XSX drums and/or mountain bike frames (if any) that should be manufactured. [assume direct labor is a fixed cost] (Leave no cells blank - be certain to enter "0" wherever required. Do not round intermediate calculations.)

	Purchased	Manufactured
XSX drums
Mountain bike frames

c.	What is the improvement in net income that would result from this plan over current operations? (Round the "Unit contribution margin" to 2 decimal places, other intermediate calculations and final answer to the nearest dollar amount.)

Improvement in net operating income

$

4.

Redo requirements (2) and (3) above, making the opposite assumption about direct labor from the one you originally made. In other words, if you treated direct labor as a variable cost, redo the analysis treating it as a fixed cost. If you treated direct labor as a fixed cost, redo the analysis treating it as a variable cost.

a.	Compute the contribution margin per unit for [assume direct labor is a variable cost]: (Round your intermediate calculations and final answers to 2 decimal places.)

	Purchased XSX Drums	Manufactured XSX Drums	Manufactured Mountain Bike Frames
Contribution margin per unit	$	$	$

b.	Compute the contribution margin per welding hour for [assume direct labor is a variable cost]: (Round your intermediate calculations and final answers to 2 decimal places.)

	Manufactured XSX Drums	Manufactured Mountain Bike Frames
Contribution margin per welding hour	$ per hour	$ per hour

c.

Determine the number of XSX drums (if any) that should be purchased and the number of XSX drums and/or mountain bike frames (if any) that should be manufactured. [assume direct labor is a variable cost] (Leave no cells blank - be certain to enter "0" wherever required. Do not round intermediate calculations.)

	Purchased	Manufactured
XSX drums
Mountain bike frames

d.	What is the improvement in net income that would result from this plan over current operations? (Round the "Contribution margin" to 2 decimal places, intermediate calculations and final answer to the nearest dollar amount.)

Improvement in net operating income

$