ACG2071 Managerial Accounting 

Chapters 20-23 Incremental Analysis Decisions - Sample Problems

Answers appear in red.                       


 

Problem 1 - Coleman Company owns a machine that produces a component for the products the company makes and sells. The company uses 1,800 units of this component in production each year. The costs of making one unit of this component are

Direct material 

$ 7

Variable manufacturing overhead 

6

Direct labor

4

Fixed manufacturing overhead 

5


The fixed overhead costs are unavoidable, and the unit cost is based on the present annual usage of 1,800 units of the component. An outside supplier has offered to sell Coleman this component for $18 per unit and can supply all the units it needs.

A. If Coleman buys the component from the outside supplier instead of making it, how much will net income change? Should Coleman make or buy the component?  Use the incremental approach to justify your answer.

Since net income decreases, Coleman should continue making the component. 

Variable cost = $7 + $6 + $4 = $17

Incremental cost savings from not making component (1,800 x $17)

$30,600

Incremental cost of buying component  (1,800 x $18)

(32,400)

Incremental decrease in net income due to buying component 

$(1,800)

 

B. Suppose Coleman could rent the machine to another company for $5,000 per year. How would your response change to part A? Use the incremental approach to justify your answer.

Since net income increases, the company should choose to buy the components.

Incremental cost savings from not making component (1,800 x $17)

$30,600

Incremental Annual rent from machine

5,000

Incremental Cost of buying component  (1,800 x $18)

(32,400)

 

Incremental Increase in net income due to buying component 

$3,200

 

 


Problem 2 - Tenchavez Company makes and sells 12,000 pairs of running shoes each year. The cost of making one pair of these shoes is

Direct material 

$ 11

Variable manufacturing overhead 

5

Direct labor

4

Fixed manufacturing overhead 

7

The fixed overhead costs are unavoidable. Tenchavez allocates fixed overhead costs based on its annual capacity of 15,000 pairs it is able to make. An overseas company recently offered to buy 3,000 pairs of shoes at $21 per pair. Regular customers buy shoes from Tenchavez at $30 per pair.

How much is incremental income if Tenchavez accepts the special order? Should Tenchavez accept?  Use the incremental approach to justify your answer.

   
Variable cost = $11 + $5 + $4 = $20 per unit

   Tenchavez should accept. 

Incremental revenue from special order (3,000 x $21)

$63,000

Incremental cost to fill special order (3,000 x $20)

(60,000)

Incremental income from accepting special order

$ 3,000

 


Problem 3 - Brislin Company makes and sells two products, Olives and Popeyes. The income statement for the prior year, 2001, was as follows:

 

Olives 

Popeyes 

Sales

$16,000

$24,000

Variable cost of goods sold

   6,000

  10,000

Manufacturing contribution margin

$10,000

$14,000

  Fixed production

5,000

7,000

  Variable selling and administration

2,000

5,000

  Fixed selling and administration

   1,000

   3,000

Net income

$2,000

($1,000)

Brislin's fixed costs are unavoidable and are allocated to products on the basis of sales revenue. If Popeyes are dropped, sales of Olives are expected to increase by 40 percent next year. 

A. Use the incremental approach to determine if Popeyes should be dropped.

 

Incremental revenue ($16,000* 40%) of Olives

$    6,400

Incremental revenue of Popeyes (24,000)
Incremental cost savings of Popeyes CGS +10,000
Incremental cost savings of Popeyes S&A cost +5,000

Incremental variable cost of Olives ($6,000*40%)

   (2,400)

Incremental s&a cost of Olives ($2,000*40%) (800)
  

Incremental decrease in income if Popeyes discountinued

($5,800)

 


Problem 4 - Monk Company manufactures widulators. Watson Company has approached Monk with a proposal to sell the company a component use in its widulators at a price of $12,000 for 4,000 units. Monk is currently making these components in its own factory. The following costs are associated annually with this part of the process when 4,000 units are produced:

Direct material

$4,000

Direct labor

2,000

Manufacturing overhead (fixed & variable)

   6,800

Total

$12,800

All but $3,000 of the manufacturing overhead costs will continue if Monk discontinues making the components. Monk will be able to eliminate machine rental of $1,800 per year if the components are no longer manufactured. 

 

A.  How much are the incremental cost or savings if Monk outsources? Use the incremental approach to justify your answer.

Of the $6,800, $3,000 is avoidable, and $3,800 will continue.

 

Incremental cost to buy 4,000 components

($ 12,000)

Incremental manufacturing savings if bought:

 

  Machine rental

$ 1,800

 

  Direct materials

4,000

 

  Direct labor

2,000

 

  Overhead – avoidable portion

  3,000

 

                Total Incremental savings

 

10,800

Incremental cost of buying components

 

($1,200)

 

B.      What is the amount of avoidable costs if Monk buys rather than makes the components?

$10,800 – from part A above….the costs that can be avoided if the alternative course of action—buying—is taken.

C.   Which costs/amounts from above are opportunity costs, if any?

 $1,800......the rent savings are given up if the alternative action--buying--is undertaken. Note that the cost of the products--whether bought or made is still a 'cost' for the company.

     

D.   Should Monk make or buy the components? Briefly justify your answer.

 Monk should make the components. There is an additional cost of $1,200 if Monks buys the components. Increases in costs are bad choices in decision making because the cost must be passed on to the customer or absorbed as lower profits by the seller.

 


Problem 5 - Anheiser, Inc. has three divisions:  Bud, Wise, and Er. Results of May, 2003 are presented below:          

 

Bud

Wise

Er

Total

Units sold

3,000

5,000

2,000

10,000

Revenue

$70,000

$50,000

$40,000

$160,000

Less variable costs

32,000

26,000

16,000

    74,000

Less direct fixed costs

14,000

19,000

12,000

    45,000

Less allocated fixed costs

6,000

 10,000

   4,000

    20,000

Net income

$18,000

($5,000)

$ 8,000

$21,000

 

The variable costs are directly attributable to the products produced for the specific departments. All of the allocated costs will continue even if a division is discontinued. Anheiser allocates indirect fixed costs based on the number of units to be sold. Since the Wise division has a net loss, Anheiser feels that it should be discontinued. Anheiser feels if the division is closed, that sales at the Bud division will increase by 20%, and that sales at the Er division will stay the same.

 

A. Prepare an incremental analysis showing the effect of discontinuing the Wise division on the remaining divisions.

 

 

Bud

Incremental revenue

 
     20%*$70,000 - $50,000 

($36,000)

Incremental variable costs savings

 

     20%*32,000 - $26,00019,600

Incremental direct fixed costs saved

19,000

Increase increase in profit if discontinued

$2,600

         

B.   Should Anheiser close the Wise division? Briefly indicate why or why not.

             Yes. The profit increases by $2,600 when the division is eliminated. Direct fixed costs and variable costs for the Wise division were relatively high compared to those for the Bud and Er divisions. The increase in sales by 20% of the Bud division was enough to offset the loss of the Wise division.   

 

 


Problem 6 - Gordon Company sells two items, corn and broccoli. The company is considering dropping corn. It is expected that sales of broccoli will increase by 40% as a result. Dropping corn will allow the company to cancel its monthly rental of its corn shucker costing $100 a month. The other equipment will be used for additional production of broccoli. One employee earning $200 can be terminated if corn production is dropped. Gordon’s other allocated costs are unavoidable. The company rents all of its equipment. A condensed, budgeted monthly income statement with both products is below:

 

Total

Corn

Broccoli

Sales

$20,000

$8,000

$12,000

  Food materials

4,500

2,000

2,500

  Direct labor

3,200

1,200

2,000

  Equipment rental

  2,900

  2,600

    300

  Other allocated overhead

 3,100

2,100

1,000

Operating income

$6,300

$  100

$6,200

In good form, prepare an incremental analysis to determine the financial effect of dropping corn production.

Incremental change in revenue:

   Increase in broccoli sales: $12,000 x 40% =

+$4,800

 

   Decrease in corn sales

(8,000)

 

Incremental decrease in revenue

 

($3,200)

Incremental change in variable costs:

   Food materials: Increase in broccoli costs: $2,500 x 40%

(1,000)

 

                      Decrease in corn costs

+2,000

 

   Direct labor: Increase in broccoli labor: $2,000 x 40%

(800)

 

                     Decrease in corn labor

  +1,200

 

Incremental decrease in variable costs

 

+1,400

  Equipment rental reduction - corn shucker

 

   +100

 Incremental decrease in profits if corn production is dropped

 

($1,700)

 


Problem  7 -   Parrino has three product lines in its retail stores: books, videos, and music. Results of the 4th quarter are presented below:                

 

Books

Music

Videos

Total

Units sold

1,000

2,000

2,000

5,000

Revenue

$22,000

$40,000

$23,000

$85,000

Variable departmental costs

15,000

22,000

12,000

49,000

Direct fixed costs

1,000

3,000

2,000

6,000

Allocated fixed costs

7,000

7,000

7,000

21,000

Net income

($1,000)

$ 8,000

$ 2,000

$ 9,000

      The allocated fixed costs are unavoidable. Demand of individual products are not affected by changes in other product lines. If Parrino discontinues the Books product line, what is the effect on profit?  Use the incremental approach. 

Incremental revenue

 

($22,000)

Incremental costs:  

     Variable costs savings

 

+15,000

     Direct fixed costs savings

 

+1,000

Incremental drop in profits if discontinued

 

($6,000)

 


Problem 8 -Temple, Inc. produces grandfather clocks and sells 100 per year.

:                                                     

 

Unit Cost

Direct materials

$ 200

Direct labor

240

Variable overhead

160

Fixed overhead (40% avoidable)

300

A. An outside supplier has offered to produce the clocks for Temple for $700. Use the incremental approach. 

Relevant costs are the incremental costs of making one clock:

Incremental Cost to buy

($70,000)

Incremental DM cost savings  

+20,000

Incremental DL cost savings

+24,000

Incremental VOH cost savings

+16,000

Incremental FOH cost savings (40%*$300*100clocks)  +12,000
Incremental Net savings to buy per unit  +$2,000

 


Problem 9 - Young Siding Co. produces computers, which sell for $400 each. A foreign distribution wants to order 1,000 units at $300 a unit. 70% of the fixed overhead is unavoidable. Production costs per unit are:

Direct materials

$90

Direct labor

120

Variable overhead

  50

Fixed overhead

60

A.  How much is the relevant cost of producing one more computer?

Relevant costs are incremental costs of making one unit.

$90 + $120 + $50  = $260

Note that fixed costs do not increase when one additional unit is produced.

 

B.  What the effect on net income of accepting the special order? Use the incremental approach.

Incremental revenue = $1,000 x $300 = $300,000

Incremental costs = $1,000 x 260 = ($260,000)

Increase of $40,000

 


Problem 10 - Scott, Inc. has a capacity of producing 300,000 units a year and sells them at $28 a unit. At present Scott is selling 250,000 units. A foreign distributor has offered to purchase 40,000 units at $20 a unit. Variable selling costs will be reduced by 40%. The sales manager determined that incremental costs of accepting the order are $744,000. Should Scott accept the order? Use the incremental approach.

Yes, incremental profit is $56,000.

   

Incremental Revenue = 40,000 x $20 = $800,000

Incremental costs = $744,000

Incremental profit = $800,000 - $744,000 = $56,000

 


Problem  11 - It costs Roy Company $14 of variable costs and $6 of allocated fixed costs to produce a toy truck that sells for $30. A buyer offers to purchase 3,000 units at $18 each. Roy has unused capacity. What will occur to profits is the offer is accepted and produced? Use the incremental approach.

Incremental increase in revenue (3,000*$18)

    $54,000

Incremental increase in costs (3,000*$14)(42,000)
Incremental increase in profits to accept
$12,000

 


Problem 12 - At the start of the year, West Coast Grocery Supply budgeted sales and variable costs for three product lines as shown below in the table. With this level of allocation, the Canned Goods line does not appear profitable.                                                        

 

Meat

Dairy

Canned Goods

Total

Sales

$15,000

$1,500

$20,000

$36,500

Variable Costs

 10,000

  1,000

  18,000

  29,000

Contribution Margin

    5,000

     500

    2,000

    7,500

Fixed Costs

    1,644

     164

    2,192

    4,000

   Profit (Loss)

$  3,356

$   336

($  192)

$  3,500

West Coast Grocery Supply is operating at capacity in terms of the existing warehouse and the current fleet of delivery trucks. If the Canned Goods line is dropped, $500 of fixed costs specifically associated with the Canned Goods line can be avoided. Additionally, sales of Meat and Dairy can be increased by 20% each.

 

A.  How much is the fixed cost savings related to canned goods?

 The amount of fixed costs that can be avoided = $500      

 

B.   Using the cost allocation death spiral concept, indicate whether West Coast should drop its canned goods line. No, the company will lose more money if it drops canned goods. Since not all fixed costs can be eliminated, they must be allocated to the other divisions causing those divisions to have reduced profits or create losses.

 


Problem 13 - Hand Devices makes and sells hand-held computers. Each computer regularly sells for $200. The following cost data per computer are based on a normal production of 8,000 computers produced each period. The company has the capacity to produce 12,000 computers.

 

Direct materials

$75

Direct labor

55

Factory Overhead (75% variable, 25% unavoidable fixed)

40

Hand Devices has received a special order for a sale of 500 computers to an overseas customer. The customer is willing to pay $150 per computer. The only selling costs that would be incurred on this order would be $10 per computer for shipping. Hand is now selling 8,000 computers through regular distributors each period. Should Hand Devices accept the special order? use the incremental approach.

No. The incremental costs are $170 per computer, which exceeds the price the customer is willing to pay.

Incremental revenue per computer = $150

Incremental cost per computer.$75 + $55 + [75% x $40] + $10 = $170

Incremental loss per computer = $150 - $170 = $20

 


Problem 14 - Chapman Company manufactures widgets. Embree Company has approached Chapman with a proposal to sell the company widgets at a price of $100,000 for 50,000 units. Chapman is currently making these components in its own factory. The following costs are associated with this part of the process when 50,000 units are produced:

Direct material

$44,000

Direct labor

20,000

Manufacturing overhead

60,000

Total

$124,000

The manufacturing overhead consists of $32,000 of costs that will be eliminated if the components are no longer produced by Chapman.  The remaining manufacturing overhead will continue whether or not Chapman makes the components. From Chapman’s point of view, what is the amount of avoidable costs if it buys rather than makes the components?
 
$44,000 + $20,000 + $32,000 = $96,000

 


Problem 15 - Wilson Company is considering replacing equipment which originally cost $56,000 and which has $43,000 accumulated depreciation to date. A new machine will cost $67,000. How much costs are sunk in this situation?

$56,000  This will not affect the outcome of decision making.

 


Problem 16 - Darnell Inc. budgeted 5,000 widgets for production during 2004. Fixed factory overhead is allocated using ABC. The following estimated costs were provided:

Direct material ($80/unit)

$400,000

Direct labor ($22/hr. * 2 hrs./unit)

220,000

Variable manufacturing overhead ($8/unit)

40,000

Fixed factory overhead costs ($53.80/unit)

269,000

  Total

$929,000

 Cost per unit = $185.80

 

 

A.  Darnell received an order for 400 units from a new customer in a country in which Darnell has never done business. This customer would like to spend $160 per widget. Darnell has capacity to produce 5,500 units. Should Darnell accept the order? Support your work with an incremental analysis.

Yes, it can make $11,200

Incremental revenue per widget

$160

Incremental cost per widget:

 

                $80 + ($22 x 2) + $8  =

132

Incremental profit per unit

$ 28

Total incremental profit = $28 x 400 = $11,200

 

 

B.  Darnell received an offer from another company to manufacture the same quality widgets for them at $140. Should Darnell let someone else manufacture all 5,000 widgets and focus on only distribution? Support your work with an incremental analysis.

 No, Darnell can expect profitability to decline $40,000 if it outsources production.

Incremental Cost to buy per widget ($140*5,000)

($700,000)

Incremental Cost to make per widget/savings if buy widgets:

 

                $80 + ($22 x 2) + $8  = $132*5,000

+660,000

Incremental savings if manufactured

$ 40,000

 

C. While evaluating the offer to outsource, Darnell realized it could rent its manufacturing space for $ 50,000. Now, should Darnell outsource the manufacture of the widgets? Support your work with an incremental analysis.

  Yes, Darnell can expect profitability to increase $10,000 if they outsource production

Cost to buy all 5,000 widgets: $140 x 5,000 =

($700,000)

Opportunity cost of renting facility

+50,000

Cost to make per widget: $132 x 5,000 =

+660,000

Incremental savings if outsourced

+$10,000

 


Problem 17 -  Auchter Company has old inventory on hand that cost $12,000. Its scrap value is only $5,000. The inventory could be sold for $20,000 if manufactured further at an additional cost of $13,000. What should Auchter do? Support your work with an incremental analysis.

Process further and sell:

 

Incremental revenue

$20,000

Incremental costs

(13,000)

Incremental profit

7,000

Incremental revenue to sell as is:

$5,000

Best option is to process further and sell at $20,000.

 


Problem 18 - Zweig, Inc. produces batches of chocolate chip cookies:                                               

 

Batch Cost

Direct materials

$ 8.00

Direct labor

3.00

Variable overhead

1.00

Fixed common overhead

4.00

An outside supplier has offered to produce the cookies for $14 per batch. What is the minimum amount that Zweig would sell additional batches of cookies if the company is under capacity?

$8 + $3 + $1  = $12;  Relevant = incremental. Note that avoidable means it is a cost that will not be incurred if the product is bought instead of made, i.e., it is a cost savings. The direct costs are saved as well. Only the costs that are different if the cookies are made instead of bought are relevant.

 


Problem 19 - Barry Corporation currently manufactures a subassembly for its main product. The costs per unit are as follows:

                  Direct materials                                              $ 1.00

                  Direct labor                                                     10.00

                  Variable overhead                                             5.00

                  Fixed overhead                                                 8.00

                           Total                                                    $24.00

Funkhouser Company has contacted Barry with an offer to sell it 5,000 of the subassemblies for $18.00 each. Total relevant costs if Barry makes the subassemblies are $85,000. Should Barry make or buy the subassemblies?  Support your answer with an incremental analysis.

Cost to make - costs to buy = incremental cost

$85,000 (given) - (5,000 x $18) = ($5,000) Cost savings if made.

Note that you do not know how much of the fixed overhead is avoidable per unit, so you can't use per unit amounts. In addition, since the relevant cost to make is given, it is much easier to find the answer than calculating.

 


Problem 20 - The cost to produce Part A was $10 per unit in 2003. During 2004, it has increased to $11 per unit. In 2004, Supplier Company has offered to supply Part A for $9 per unit. For the make-or-buy decision, identify the following amounts that are relevant:

      A.    Incremental revenues

        There are never any incremental revenues with make or buy decisions.

      B.   Differential costs are $2 per unit.

        Cost to make - cost to buy =  $11 - $9 = $2 per unit

 


Problem 21 - A company uses 10,000 units of Part A in producing its products. A supplier offers to make Part A for $70. Max Company has relevant costs of $80 a unit to manufacture Part A. There is excess capacity. How much is the opportunity cost of buying Part A from the supplier?

Zero. Opportunity costs are the value of benefits forgone by selecting one alternative over another.  There are no opportunity costs in this problem.

 


Problem 22 - Temple, Inc. produces several models of grandfather clocks. An outside supplier has offered to produce the economy clocks for Temple for $350 each. Temple needs 1,200 clocks annually. Temple has provided the following unit costs for its economy model:  

 

Unit Cost

Direct materials

$ 100

Direct labor

120

Variable overhead

80

Fixed overhead (40% avoidable)

150

 

Using good form, prepare an incremental analysis which shows the effect of the make or buy decision. Show calculations to support your answers in the space outside the answer box.

Incremental analysis:

Incremental effect

  Incremental Cost to buy (1,200 x $350)

($420,000)

  Incremental Cost savings:

 

    Savings of DM

$100 x 1,200 =

$120,000

 

    Savings of DL

$120 x 1,200 =

144,000

 

    Savings of VOH

$80 x 1,200 =

96,000

 

    Savings of FOH

40% x $150 x 1,200 =

   72,000

 

Incremental total cost savings

  +432,000

   Incremental cost saving if clocks are bought instead of made

$12,000

 


Problem 23 - A division has the following data:

                       Sales                                                        $600,000

                       Variable expenses                                       320,000

                       Fixed expenses                                           310,000

What will be the incremental effect on net income if this division is eliminated, assuming the fixed expenses will be allocated to profitable segments?  Use the incremental analysis approach.  

 

Effect on profit

Incremental revenue

($600,000)

Incremental variable costs

  +320,000

Incremental effect on profit

($280,000)

Only costs that change between alternatives are incremental. Fixed expenses that are allocated never change.

 


Problem 24 - Diversified Machines has four product lines, one of which reflects the following results:

                       Sales                                                                 $220,000

                       Variable expenses                                                120,000

                       Contribution margin                                              100,000

                       Fixed expenses                                                     120,000

                       Net loss                                                               $(20,000)

If this product line is eliminated, 40% of the fixed expenses can be eliminated and the other 60% will be allocated to other product lines.

A.  Create an incremental analysis to determine if this product line should be eliminated.     

 

Effect on Profit

Incremental decrease in revenue ($220,000)

Incremental variable cost savings

$120,000

Incremental fixed cost savings ($120,000 x 40%)

  +48,000

Incremental decrease in profits if eliminated

($52,000)

B. Identify any non-relevant costs.

Since the other 60% of fixed costs will be incurred regardless of decision, they are not relevant.

 


Problem 25 - Sally Industries can produce 100 units of a necessary component part with the following costs:

                       Direct Materials                                 $30,000

                       Direct Labor                                        13,000

                       Variable Overhead                               32,000

                       Fixed Overhead                                   12,000

If Sally Industries purchases the component externally, $3,000 of the fixed costs can be avoided. At what external price for the 100 units is the company indifferent between making or buying?

The company is indifferent when the cost of making the part equals the cost of buying the part, which is $78,000:

Incremental savings:

Effect on Profit

  ($30,000 + $13,000 + $32,000 + $3,000)

 $78,000

 


Problem 26 - Hernandez, Inc. manufactures 3 models of picture frames. Hernandez Corporation manufactures 5,000 frames per year. The unit cost to produce a metal frame follows:

Direct Materials 

$ 6

Direct Labor 

7

Variable Overhead 

2

Fixed Overhead (70% unavoidable)

     5

Total 

$20

A local company has offered to supply Hernandez the 5,000 metal frames it needs for $16 each. In good form, create an incremental analysis for the make or buy decision. 

 Incremental cost to buy

($80,000)

5,000 x $16 = $80,000

 Incremental savings:

    Direct materials savings

+$30,000

5,000 x $6 = $30,000

    Direct labor savings

+35,000

5,000 x $7 = $35,000

     Variable overhead savings

+10,000

5,000 x $2 = $10,000

     Fixed overhead savings - avoidable portion

+7,500

5,000 x $5 x 30% = $7,500

 Incremental savings if 'buy' decision is made

$2,500

 

 


Problem 27 - Crisp has 4 product lines: milk, ice cream, yogurt, and butter. The allocated fixed costs are based on units sold and are unavoidable. Demand of individual products is not affected by changes in other product lines. 40% of the fixed costs are direct, and the other 60% are allocated. Results of June follow:    

 

Milk

Ice Cream

Yogurt

Butter

Total

Units sold

2,000

500

400

200

3,000

Revenue

$10,000

$20,000

$10,000

$20,000

$60,000

Variable departmental costs

6,000

13,000

4,200

4,800

28,000

Fixed costs

   5,000

  2,000

  3,000

  7,000

17,000

Net income (loss)

($1,000)

$5,000

$2,800

$8,200

$15,000

 

A. In good form, prepare an incremental analysis of the effect of dropping the milk product line.

 

 Incremental revenue

($10,000)

 Incremental variable cost savings

+6,000

 Incremental fixed cost savings (5,000 x .40)

  +2,000

    Incremental decrease in profits

($2,000)

 

B.  Briefly state how the cost allocation death spiral concept applies to this problem. 

The cost allocation death spiral occurs when a company drops a product line/division that has a loss. Management may believe this will eliminate the loss, however, since the common fixed costs must be allocated and absorbed by other products, the total profit of the company declines. i.e., allocated fixed costs cannot be avoided.

 


Problem 28 - Evans Corporation currently manufactures 3,000 subassemblies annually for its main product. The costs per unit are as follows:                 

Direct materials

$  3.00

Direct labor

8.00

Variable overhead

4.00

Fixed overhead

    7.00

Total

$22.00

Howard Company has contacted Evans with an offer to sell it 3,000 subassemblies for $18.00 each. $5 of the fixed overhead per unit is unavoidable. In good form in the answer box below, create an incremental analysis for the make or buy decision.  (Do not include extraneous information/calculations inside the answer box.)

Incremental analysis:

Calculations (not part of analysis):

Incremental cost to buy ($54,000) 3,000 x $18
Incremental savings on direct materials +9,000 3,000 x $3
Incremental savings on direct labor +24,000 3,000 x $8
Incremental savings on variable MOH +12,000 3,000 x $4
Incremental savings on fixed MOH +6,000 3,000 x $2*
Incremental net cost to buy

($3,000)

 


*The unavoidable portion of this cost ($5) exists whether or not the company makes or buys the subassemblies. If the subassemblies are bought, the company saves the avoidable portion of the cost, $2 per unit.

 


Problem 29 Parrino has three product lines in its retail stores: books, videos, and music. The allocated fixed costs are based on units sold and are unavoidable. Results of the fourth quarter are presented below:    

 

Books

Music

Videos

Total

Units sold

1,000

2,000

2,000

5,000

Revenue

$24,000

$48,000

$34,000

106,000

Variable departmental costs

15,000

22,000

23,000

60,000

Direct fixed costs

3,000

6,000

5,000

14,000

Allocated fixed costs

   4,400

   8,800

 8,800

22,000

Net income (loss)

$ 1,600

$11,200

($2,800)

$10,000

 

Demand of individual products is not affected by changes in other product lines. In good form, prepare an incremental analysis of the effect of dropping the Video product line.   

Incremental analysis:

Incremental revenue

($34,000)

Incremental savings on variable costs

+23,000

Incremental savings on direct fixed costs

+5,000

Incremental decrease in profit to drop video line

($6,000)

Note: Incremental analyses show only the differences in revenues and costs. Comparative columns or comparative income statements, or a revised income statement showing the net amounts to be reported after the drop are NOT incremental analyses. We emphasized incremental analysis using this approach in class.

 


Problem 30 - Calc, Inc. owns a machine that produces baskets for the gift packages the company sells. The company uses 800 baskets in production each month. The costs of making one basket is $4 for direct materials, $3 for variable manufacturing overhead, $2 for direct labor and $5 for fixed manufacturing overhead. The unit cost is based on the monthly usage of 800 baskets. The company determined that 30% of the fixed manufacturing overhead is avoidable. An outside supplier has offered to sell Calc the baskets for $12 each, and can supply all the units it needs. In good form, prepare an incremental analysis to determine if Calc should buy the component from the supplier?  

 Incremental cost to buy (800 x $12)

 ($9,600)

 Incremental cost savings:

 

     DM ($4 x 800)

 +3,200

     VOH ($3 x 800)

 +2,400

     DL ($2 x 800)

 +1,600

     FOH ($5 x 30% x 800)

 +1,200

       Incremental cost to buy

 ($1,200)

 Since 30% of the fixed cost is avoidable, this cost will be a savings.

 


Problem 31 - Boys Toys sells three products in its retail stores: planes, trains, and cars. Results of the 4th quarter are below:       

 

Planes

Trains

Cars

Total

Units sold

1,000

2,000

2,000

5,000

Revenue

$31,000

$43,000

$26,000

$100,000

Variable departmental costs

22,000

24,000

13,000

59,000

Direct fixed costs

5,000

4,000

3,000

12,000

Allocated fixed costs

6,000

7,000

7,000

20,000

Net income

($2,000)

$ 8,000

$ 3,000

$ 9,000

Demand of individual products are not affected by changes in other product lines. In good form, prepare an incremental analysis to determine if planes should be discontinued.

 Incremental revenue

 ($31,000)

 Incremental VC savings

 +22,000

 Incremental direct fixed costs

 +5,000

 Incremental decline in profit if discontinued

 ($4,000)

 


Problem 32 - The following estimated costs were provided by Young Company:

Direct material ($30/unit)

$30,000

Direct labor ($12/hr. * 3 hrs./unit)

36,000

Variable manufacturing overhead ($15/unit)

15,000

Fixed factory overhead costs ($10/unit)

10,000

  Total

$91,000

Young received an order for 600 units from a new customer in a country in which Young has never done business. This customer would like to spend $86 per widget. Young has capacity to produce 900 more units. Should Young accept the order? Support with an incremental analysis.

Yes, it can make $3,000 more profit

 

Incremental revenue (600 x $86) = +$51,600

Incremental DM cost  (600 x $30) =  (18,000)

Incremental DL cost (600 x $36) = (21,600)

Incremental VMOH cost (600 x $15) = (9,000)

Incremental profit = + $3,000

Fixed OH is not incremental since it does not change.

 


Problem 33 - Kirk Company plans to produce 50,000 buckets next year at a total cost of $850,000.  Fixed costs are $3 per unit at this level of operations. Selling price is $8 per unit.  Kirk is considering lowering the price to $7 per unit, and feels that this action will cause sales to climb to 60,000 buckets. Use incremental analysis to calculate incremental profit or loss if the change is made to the sales price. 

Incremental revenue:

 

Effect on Profit

  Before change: $8 x 50,000 =

$400,000

 

  After change: $7 x 60,000 =

420,000

 

Incremental increase in profits

 

$20,000

 


Problem 34 - Zeriff’s Donuts currently sells donuts for $4.00 per dozen.  These donuts cost $2.70 per dozen to produce.  Business was very slow yesterday, and several dozen donuts have been marked down to $1.50 per dozen on the day-old table today.  What is the sunk cost associated with these donuts?
 The original cost of the donuts is $2.70 no matter what and it can't be changed. This is a sunk cost.

 


Problem 35 - Morley, Inc. has three product lines in its retail stores: putters, drivers, and sinkers. The allocated fixed costs are based on units sold and are unavoidable. Results of May follow:

 

Putters

Drivers

Sinkers

Total

Units sold

500

1,000

1,000

2,500

Revenue

$24,000

$48,000

$34,000

106,000

Variable departmental costs

15,000

22,000

23,000

60,000

Direct fixed costs

3,000

6,000

5,000

14,000

Allocated fixed costs

   4,000

   8,000

   8,000

  20,000

Net income (loss)

$ 2,000

$12,000

($2,000)

$12,000

Demand of individual products is not affected by changes in other product lines. In good form, prepare an incremental analysis of the effect of dropping the sinkers product line.

Incremental analysis:

 Incremental decrease in revenue

($34,000)

 Incremental savings of variable costs

+23,000

 Incremental savings of direct fixed costs

+5,000

 Incremental decline in profit if Sinkers dropped

 ($6,000)

 


Problem 36 - Walker, Inc. currently manufactures 4,000 motors for its electric scooters annually. Direct material costs are $48,000 and direct labor total $12,000 annually. Overhead totals $10 per unit of which $4 is variable. Thirty percent of the fixed overhead is unavoidable. Anthony, Inc. has contacted Walker with an offer to sell the motors for $21 each. In good form, create an incremental analysis for the make or buy decision. 

 

Incremental analysis:

 Incremental cost to buy ($21 x 4,000)

($84,000)

 Incremental direct material cost savings

 +48,000

 Incremental direct labor cost savings

 +12,000

 Incremental variable overhead cost savings ($4 x 4,000)

+16,000

 Incremental fixed overhead cost savings

[$10- $4] x 4,000 x 70%

 

 +16,800

 Incremental net cost savings if buy instead of make

$8,800

 


Problem 37 - Bing Corporation currently manufactures a lid for its main product. The relevant costs to produce one unit for direct costs are $1.70, and the allocated common costs are $0.80 per unit. A supplier has offered to provide the monthly supply of 12,000 lids for $21,600. Should Bing outsource the lids?  Use incremental analysis.

No, the cost increases by $1,200

Incremental savings of cost to make: $1.70 x 12,000 = $20,400

Incremental cost to buy: ($21,600)

Incremental cost to buy instead of make: $20,400 - $21,600 = ($1,200)

 

Problem 38 -  Block Corporation currently makes the rolls that it uses for its sandwiches. It uses 50,000 rolls annually. The costs to make the rolls are given below:

Materials

$0.04

Labor

$0.03

VOH

$0.02

FOH

$0.07

A potential supplier has offered to sell Block the rolls for $0.11 each. If the rolls are purchased, 20% of the fixed overhead could be avoided. Determine the effect if Block accepts the offer. Use incremental analysis. 

Profits will decrease (costs will increase) by $300 if accepted.

Incremental analysis:

Incremental cost to buy                          ($0.11)

Incremental cost savings:

  DM savings                                       + $0.04

  DL savings                                        + $0.03

  VOH savings                                     + $0.02

 FOH savings ($.07 x 20%)                 + $0.014

Incremental decrease in profit per unit = $.006

 

Total incremental decrease in profit (50,000 x $0.006) = $300

  


Problem 39 - Menlo Shoe Company is trying to decide whether or not to continue making bowling shoes. The following information is available for the segments. Assume that all direct fixed costs could be avoided if a segment is dropped and that the total common fixed costs would remain unchanged if the bowling shoes were dropped. 
  Bowling Shoes Athletic Shoes Boots
Sales $120,000 $420,000 $360,000
VC 64,000 220,000 140,000
CM 56,000 200,000 220,000
Direct FC 40,000 70,000 90,000
Allocated FC 20,000 70,000 60,000
NI ($4,000)
$60,000
$70,000

If bowling shoes are dropped, what would happen to the overall net income? Support with incremental analysis.

It would decrease by $16,000.

        Incremental Revenue                  ($120,000)

        Incremental VC savings               + $64,000

        Incremental Direct FC savings     + $40,000

        Incremental decrease in profits  ($16,000)

 


Problem 40 -  Menlo Shoe Company is trying to decide whether or not to continue making bowling shoes. The following information is available for the segments. Assume that all direct fixed costs could be avoided if a segment is dropped and that the total common fixed costs would remain unchanged if the bowling shoes were dropped. 

 

Bowling Shoes

Athletic Shoes

Boots

Sales

$120,000

$420,000

$360,000

VC

64,000

220,000

140,000

CM

56,000

200,000

220,000

Direct FC

40,000

70,000

90,000

Allocated FC

20,000

70,000

60,000

NI

($4,000)

$60,000

$70,000

Assume that boots normally sell for $90 per pair. An exporter has approached Menlo about buying 1,000 pairs of boots for a one-time export deal for $80 per pair. $3.00 per unit of the normal variable cost could be avoided on this sale, but Menlo would have to pay a fixed cost $4,000 to have the boots shipped. Menlo has capacity to produce this order, and no regular sales will be affected. Should Menlo accept this order? Support with an incremental analysis.

Yes, profits will increase by $44,000.

# of boots sold =   $360,000/$90 = 4,000

 

Incremental cost per unit = $140,000/4,000 = $35

 
  

Incremental revenue ($80 x 1,000)

$80,000

Incremental VC ($35 - $3) x 1,000

(32,000)

Increase in fixed costs

4,000

Incremental increase in profits

$44,000

 


Problem 41  BarBQue Heaven has three product lines in its stores: ribs, chicken, and beef. Results of May are presented below:                

 

Ribs

Chicken

Beef

Total

Units sold

2,000

4,000

4,000

10,000

Revenue

$22,000

$40,000

$23,000

$85,000

Variable departmental costs

15,000

22,000

12,000

49,000

Direct fixed costs

1,000

3,000

2,000

6,000

Allocated fixed costs

7,000

7,000

7,000

21,000

Net income

($1,000)

$ 8,000

$ 2,000

$ 9,000

Allocated fixed costs are unavoidable. Individual product demand is not affected by changes in other product lines.

 

A.  In good form, use the incremental approach to determine if BarBQue Heaven should discontinue Ribs. Label appropriately. Show calculations in the space provided if needed.  .

Incremental analysis:

Incremental revenue 

($22,000)

 Incremental variable costs savings

+ 15,000

 Incremental direct fixed cost savings

+ 1,000

 Incremental decrease in profit if ribs are dropped

($6,000)

 

B,   Briefly state how the cost allocation death spiral applies to this problem.

      When a division is eliminated, the fixed costs that had been allocated to it, have to be allocated to the remaining divisions. Hence, the allocated fixed costs do not disappear. Without the additional contribution margin from the dropped product, total profit declines. If more products are dropped the company spins into a deeper cut in profits or increased loss.

 


Problem 42 - Halo Inc. budgeted 8,000 bearings for production during 2006. Fixed factory overhead is allocated using ABC. Halo received an offer from a suppler to manufacture the same quality bearings at $81 each. The space currently occupied by the manufacturing facility could be leased out for $20,000 per year if the supplier provides the bearings. The following estimated costs were provided:

Direct material ($50/unit)

$400,000

Direct labor ($16/hr. * 1.5 hrs./unit)

192,000

Variable manufacturing overhead ($6/unit)

48,000

Fixed factory overhead costs ($18/unit)

144,000

  Total

$784,000

 

Cost per unit = $98.00

 

Use the incremental approach to determine if Halo should buy its bearings from the supplier. Label appropriately. Show calculations in the space provided if needed.  .

Incremental analysis:

 

Calculations:

Incremental cost to buy  

($648,000)

($81*8,000)

Incremental cost savings - DM 

+400,000
Incremental cost savings - DL  +192,000
Incremental cost savings - VOH  +48,000 
Incremental lease revenue

+20,000

 
      Incremental cost savings to buy from supplier

$12,000

 


Problem 43 Clinton Company makes and sells 16,000 ties each year. Fixed overhead costs are allocated to ties based on its annual production of 16,000 ties. The unit cost of making one tie at this activity level follows:

Direct material 

$ 9

Variable manufacturing overhead 

3

Direct labor

5

Fixed manufacturing overhead 

4

Capacity is 20,000 ties. Forty percent of the fixed overhead costs is avoidable. An overseas company recently offered to buy 2,500 ties at $20 per tie even though Clinton’s regular customers pay $25 each.

A.   Use the incremental approach to determine the effect on income if Clinton accepts the order for 2,500 ties. Label appropriately. Show calculations in the space provided if needed.    

Incremental analysis:

 

Calculations:

 Incremental revenue

$50,000

2,500*$20

 Incremental costs = DM

(22,500)

2,500*$9

 Incremental costs = DL (7,500)

2,500*$3

 Incremental costs = VOH

(12,500)

2,500*$5

 Incremental costs avoided = FOH

(4,000)

2,500*$4*40%

 Incremental increase in profit if special order accepted $3,500

B.   Should Clinton accept?  Briefly justify your answer.

Most likely, yes. Profits increase by $3,500. Qualitative benefits and costs should be considered as well.

 


Problem 44  SMP Company's market for the Model 64 has changed significantly, and SMP has had to drop the price per unit from $265 to $125. There are some units in the work in process inventory that have costs of $150 per unit associated with them. SMP could sell these units in their current state for $100 each. It will cost SMP $10 per unit to complete these units so that they can be sold for $125 each. Which of the following is the amount of sunk costs in this problem?

$150 per unit

Two costs are not relevant since the profits remain the same regardless if SMP is dropped or not. The original selling price of $265 does not make the company more or less profitable. The $150 cost exists regardless of the decision made. However, a sunk cost is an amount incurred for which it is too late to change. The previous selling price is not a 'cost'.

 


Problem 45 Block Corporation currently makes the rolls that it uses for its sandwiches. It uses 50,000 rolls annually. The costs to make the rolls are given below:

Materials

$0.04

Labor

$0.03

VOH

$0.02

FOH

$0.07

A potential supplier has offered to sell Block the rolls for $0.11 each. If the rolls are purchased, 20% of the fixed overhead could be avoided. If Block accepts the offer, it will be:

Incremental analysis:

Incremental cost to buy              ($0.11)

Incremental cost savings:

  DM savings                             + $0.04

  DL savings                              + $0.03

  VOH savings                            + $0.02

 FOH savings                           + $0.014

    ($.07 x 20%)

Incremental decrease in profit per unit = $.006

Total incremental decrease in profit = $300

   (50,000 x $0.006)

 


Problem 46 Alan Company makes sets of wrenches. They are trying to decide whether to continue to make the case the wrenches are sold in, or to outsource it to another company. The direct material and direct labor cost to produce the cases total $2.00 per case. The overhead cost is $1.00 per case which consists of $0.40 in variable overhead which would all be eliminated if the case were bought from the outside supplier. The $0.60 of fixed overhead is based on expected production of 200,000 cases per year and consists of the salary of the case production manager of $40,000 per year and $80,000 in depreciation on equipment that would have no resale value. The manager would be laid off if the cases were bought externally. Additionally, if the case production were stopped, the space that it is using could be rented out for $20,000 per year. The outside supplier has offered to supply the cases for $2.80 per case. How much will Alan save or lose if the cases are bought externally?

Incremental analysis:

Incremental cost to buy per case    ($2.80)

Incremental cost savings to buy:

  DM and DL savings  + $2.00

  VOH savings  + $0.40

  FOH savings:

   Salary $40,000/200,000 = = $0.20
Incremental opportunity cost is bought  +$0.10

    ($20,000/200,000) 

Incremental cost increase if bought = ($0.10) per case

 


Problem 47- Smith Company manufactures widgets. Newman Company has approached Smith with a proposal to sell the company one of the components used to make widgets at a price of $100,000 for 50,000 units. Smith is currently making these components in its own factory. The following costs are associated with this part of the process when 50,000 units are produced:

    Direct material

$44,000

    Direct labor

20,000

     MOH

60,000

The manufacturing overhead consists of $32,000 of costs that will be eliminated if the components are no longer produced by Smith. The remaining manufacturing overhead will continue whether or not Smith makes the components. Answer the following questions from Smith's point of view.

Should Smith make or buy the components for the widgets?

 

Continue to make them because the incremental cost of buying from Newman is $4,000.

Incremental analysis:

Incremental cost to buy ($100,000)

Incremental cost savings to make:

   DM     + $44,000

   DL      + $20,000

   MOH    + $32,000

Incremental cost to buy ($4,000)

 


Problem 48  Huxley Sports Company sells logo sports merchandise and does custom screen printing. They are trying to decide whether or not to continue screen printing. The following information is available for the segments. Assume that all direct fixed costs could be avoided if a segment is dropped and that the total common fixed costs would remain unchanged if the screen printing were dropped.

 

Screen Printing

Apparel Sales

Sales

$120,000

$420,000

Variable costs

72,000

220,000

Contribution margin

48,000

200,000

Direct fixed costs

32,000

70,000

Allocated common fixed costs

20,000

70,000

Net income

($4,000)

$60,000

Assume that more space will be allocated to apparel sales if screen printing is dropped. This will allow apparel sales to increase by 25%. What is the impact on profits of the proposed change?  

Incremental revenue - screen

($120,000)

Incremental revenue - apparel (25%*$420,000)

105,000

Incremental savings/(costs):

 

  VC - screen printing

+ 72,000

  VC - apparel (25%*$220,00)

(55,000)

  Direct FC

+32,000

Incremental increase in profits

$34,000

 


Problem 49 Menlo Shoe Company is trying to decide whether or not to continue making bowling shoes. The following information is available for the segments. Assume that all direct fixed costs could be avoided if a segment is dropped and that the total common fixed costs would remain unchanged if the bowling shoes were dropped. 

 

Bowling Shoes

Athletic Shoes

Boots

Sales

$120,000

$420,000

$360,000

VC

64,000

220,000

140,000

CM

56,000

200,000

220,000

Direct FC

40,000

70,000

90,000

Allocated FC

20,000

70,000

60,000

NI

($4,000)

$60,000

$70,000

If bowling shoes are dropped, what would happen to overall net income?

Incremental revenue                  ($120,000)

Incremental VC savings             + $64,000

Incremental direct FC savings    + $40,000

Incremental decrease in profits   ($16,000)

 


Problem 50 Menlo Shoe Company is trying to decide whether or not to continue making bowling shoes. The following information is available for the segments. Assume that all direct fixed costs could be avoided if a segment is dropped and that the total common fixed costs would remain unchanged if the bowling shoes were dropped. 

 

Bowling Shoes

Athletic Shoes

Boots

Sales

$120,000

$420,000

$360,000

VC

64,000

220,000

140,000

CM

56,000

200,000

220,000

Direct FC

40,000

70,000

90,000

Allocated FC

20,000

70,000

60,000

NI

($4,000)

$60,000

$70,000

Assume that boots normally sell for $90 per pair. An exporter has approached Menlo about buying 1,000 pairs of boots for a one-time export deal for $80 per pair. $3.00 per unit of the normal variable cost could be avoided on this sale, but Menlo would have to pay a fixed cost $4,000 to have the boots shipped. Menlo has capacity to produce this order, and no regular sales will be affected. If Menlo accepts this order:

# of boots sold =   $360,000/$90 = 4,000

 

Incremental cost per unit = $140,000/4,000 = $35

 
  

Incremental revenue ($80 x 1,000)

$80,000

Incremental VC ($35 - $3) x 1,000

(32,000)

Increase in fixed costs

4,000

Incremental increase in profits

$44,000

 


Problem 51Contesa Company plans to produce 8,000 units during May at a total cost of $29,000. Fixed costs total $13,000. Selling price per unit is $5.00. Management is considering lowering the price to $4.60 per unit, and feels that this action will cause sales to climb to 8,800 units. How much are the incremental costs incurred if 8,800 units are produced and sold?

Total costs = FC + VC 

$29,000 = $13,000 + X; so VC = $16,000;

VC per unit: $16,000/8,000 = $2 per unit

Incremental costs to produce 800 more units (8,800 - 8,000):

   800 units x $2 = $1,600

 


Problem 52  Don’s Donuts budgets the following costs for the production of 36,000 boxes of donuts next year:  Rent, $20,000; other fixed costs, $6,000; direct materials, $54,000, and direct labor, $36,000.  The normal selling price is $4.00 per box.  A new convenience store has offered to pay Don’s  $3.00 per box to supply them with 10,000 boxes of donuts during the year.  Assuming that Don’s has the capacity to fill this order along with their other production and that accepting this order will not cause problems with any of their other customers, should Don’s Donuts accept this order? Justify your answer with computations.
Yes, because incremental profits will increase by $5,000.

      Incremental revenue: $3.00 x 10,000 = $30,000

      Incremental costs: VC/unit= [$54,000+$36,000]/36,000 = $2.50; so incremental costs are $2.50 x 10,000 boxes = $25,000; Incremental profit is revenue less cost: $30,000 - $25,000 = $5,000

 


Problem 53 - AT, Inc. plans to produce and sell 80,000 calculators next year. Fixed costs are $100,000. The current selling price is $7 each and the variable cost per unit is $4. Management is considering raising the selling price to $8 per unit, but this is likely to cause the sales volume to drop to 76,000 units. How much is the incremental profit associated with the changes?

Incremental revenue  
   (80,000 x $7) - (76,000 x $8)   $48,000
Incremental costs:  
  Variable cost: ((80,000 - 76,000) x $4)  

(16,000)

Incremental profit

 

$32,000

 


Problem 54 Tague Company sells calculators. During the past year, 6,000 calculators were produced and sold at $10 each. Variable cost per unit was $3 and total fixed costs were $200,000. Tague would like to raise the selling price per unit to $11 each, but feels that this will reduce sales to 5,500 bottles per year. How much is the incremental revenue of raising the selling price?

Old revenue: $10 x 6,000 = $60,000

New revenue: $11 x 5,500 = $60,500

Incremental revenue: $60,500 - $60,000 = $500

 


Problem 5 At Fruit Company, the total cost to produce 50,000 units is $750,000. Total fixed costs are $250,000. What is the expected cost to produce 48,000 units?

VC = ($750,000 - $250,000) = $500,000

VC per unit = $500,000/50,000 = $10

Cost at 48,000 units = $10(48,000) + $250,000 = $730,000

 


Problem 56  At Richetti Company, the total variable cost to produce 15,000 units is $45,000. Total fixed costs are $21,000. What is the expected cost to produce 13,000 units?

    VC per unit = $45,000/15,000 = $3 per unit

    Total cost = variable cost + fixed costs = [$3*13,000] + $21,000 = $60,000

    Note that product costs include both fixed and variable amounts. If the question asked for the incremental cost, then $39,000, the variable cost would be the answer, only if the difference in units was 13,000.

 


Problem 57  Key Company plans to produce and sell 500 skateboards next year. Fixed costs are estimated at $50,000. Key sells each skateboard for $60. Total variable costs at 500 units are $12,000. Management is considering decreasing the selling price to $55 each, which is likely to cause the sales volume to increase to 600 units. How much is the incremental revenue associated with the changes?

Option 1 (price at $60) = $60 x 500 = $30,000

Option 1 (price at $55) = $55 x 600 = $33,000

Incremental revenue = $33,000 - $30,000 = $3,000

 


Problem 5 Eng Company plans to produce and sell 400 skateboards next year. Fixed costs are estimated at $10,000. Eng sells each skateboard for $50. Variable costs are $20 per unit. Management is considering decreasing the selling price to $45 each, which is likely to cause the sales volume to increase to 500 units. How much is the incremental profit associated with the changes?

Incremental revenue = (400 x $50) - (500 x $45) = +$2,500

Incremental costs = 100 x $20 = (2,000)

Incremental profit = $2,500 - $2,000 = $500

 


Problem 59 Bell Company sells sims. During the past year, 8,000 sims were produced and sold at $10 each. Variable cost per unit was $4 and total fixed costs were $160,000. Bell would like to raise the selling price per unit to $12 each, but feels that this will reduce sales to 7,400 sims per year.

 

A. Highlight the amounts of any items which are not relevant to this decision.
Highlighted in green = not relevant. Fixed costs are not relevant since the amount stays the same regardless of whether the selling price stays at $10, or in raised to $12.

 

B.  How much is the incremental revenue? 

 

Current revenue: 8,000 x $10 =

$80,000

 

 

Revenue if change is made: 7,400 x $12 =

88,800

 

 

Incremental revenue

 

+$8,800

 

C.  How much is the incremental profit?

 

Incremental revenue (from part B)

 

+$8,880

 

Incremental cost: [8,000 - 7,400] x $4 =

 

(2,400)

 

Incremental profit

 

$6,400

 


Problem 60   Kirk Company plans to produce 50,000 buckets next year at a total cost of $850,000.  Fixed costs are $3 per unit at this level of operations. Selling price is $8 per unit.  Kirk is considering lowering the price to $7 per unit, and feels that this action will cause sales to climb to 60,000 buckets. Use incremental analysis to calculate incremental profit or loss if the change is made to the sales price. 

Incremental revenue:

 

Effect on Profit

  Before change: $8 x 50,000 =

$400,000

 

  After change: $7 x 60,000 =

420,000

 

Increase in revenue

 

$20,000

 


Problem 61   Don’s Donuts budgets the following costs for the production of 36,000 boxes of donuts next year:  Rent, $20,000; other fixed costs, $6,000; direct materials, $54,000, and direct labor, $36,000.  The normal selling price is $4.00 per box.  A new convenience store has offered to pay Don’s  $3.00 per box to supply them with 10,000 boxes of donuts during the year. Assuming that Don’s has the capacity to fill this order along with their other production and that accepting this order will not cause problems with any of their other customers, should Don’s Donuts accept this order?
Yes, because incremental profits will increase by $5,000.
Incremental revenue: $3.00 x 10,000 = $30,000

Incremental costs:

    VC/unit= [$54,000+$36,000]/36,000 = $2.50;

    so incremental costs are $2.50 x 10,000 boxes = $25,000

Incremental profit = revenue less cost: $30,000 - $25,000 = $5,000

 


Problem 62   Sabab, Inc. produces 4 different qualities of cable for broadband internet hookups. Sabab currently produces 800,000 yards of economy cable each month. The costs of making each yard is $0.12 for direct materials, $0.05 for variable manufacturing overhead, $0.03 for variable administrative overhead, $0.06 for direct labor, and $0.12 for fixed manufacturing overhead. Overhead is allocated based on direct labor hours. An outside supplier has offered to sell Sabab economy cable for $0.28 per yard, and can supply all it needs. The company determined that 15% of the fixed overhead is avoidable if the company discontinues production of the economy cable. In addition, the company could lease the machine used to make the economy cable to another company for $8,000 annually.  In good form, prepare an incremental analysis to determine if Sabab should outsource the component. 

Incremental Analysis

Amounts

Calculations (if any):

Buy: $0.28*800,000

 

DM: $0.12*800,000

DL: $0.06*800,000

VMOH: $0.05*800,000

VAOH: $0.03*800,000

$0.15*800,000*15%

 Incremental cost to buy

 ($224,000)

 Incremental variable cost savings

 

     Direct materials

 +96,000

     Direct labor

+48,000

     Variable manufacturing overhead

+40,000

     Variable administrative overhead

 +24,000

 Incremental fixed overhead savings   

 +14,400

 Incremental lease revenue is bought

 +8,000

 Incremental increase in profit if bought

 +$6,400

  

Should Sabab outsource? Yes. Profits increase by $6,400.


Problem 63 Hooters sells 3 child meals in its restaurants: Hot Wings, 3 Mile Wings, and Volcano Wings. Changes in product lines do not affect demand of other products. Results of June are below:       

 

Hot Wings

3 Mile Wings

Volcano

Total

Units sold

4,000

2,500

2,600

9,100

Revenue

$32,000

$30,000

$26,000

 $88,000

Variable departmental costs

19,200

16,500

10,400

46,100

Direct fixed costs

5,000

7,000

4,000

16,000

Allocated fixed costs

6,500

8,500

7,500

22,500

Net income

$1,300

($2,000)

$4,100

$3,400

Seventy percent of the allocated fixed costs are unavoidable. In good form, prepare an incremental analysis to determine if 3 Mile Wings should be discontinued.

Incremental Analysis

Amounts

 Incremental revenue if dropped

 ($30,000)

 Incremental variable cost savings

 +16,500

 Incremental direct fixed cost savings

 +7,000

 Incremental fixed costs avoided*

 +2,550

 Incremental decrease in profit if dropped

 ($3,950)

 * $8,500*30% = $2,550

Should 3 Mile Wings be discontinued? Briefly justify your response as to why or why not. 

3 Mile Wings should not be discontinued because profits would decline by $3,950, which results in a net loss of $550 for the company instead of a $3,400 profit.

 


Problem 64  The following estimated costs were provided by Narb Company:

Direct material ($20/unit)

$240,000

Direct labor ($12/hr. * .25 hrs./unit)

     36,000

Variable manufacturing overhead

18,000

Allocated fixed overhead costs ($2.50/unit)

30,000

  Total

$324,000

 

 

 

 

 

 

Narb received an order for 2,500 units from a new customer with whom Narb is anxious to do business. This customer would like to spend $26 per widget. Narb has the capacity to produce the additional units. In good form, prepare an incremental analysis to determine if Narb should accept the order.

Incremental Analysis

Amounts

Calculations:

2,500 * $26 = $65,000

$12*0.25hrs.*12,000 = $7,500

2,500 * $20 = $65,000

2,500*12,000 = $3,750

 Incremental revenue if accepted

 +$65,000

 Incremental DL cost increase

 (7,500)

 Incremental DM cost increase

(50,000)

 Incremental VOH cost increase

 (3,750)

 Incremental increase in profit if accepted

$3,750 

 

 

 # of units: $240,000/$20 = 12,000 units