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Additional Problems.pdf

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Department
Accounting
Course
ACCTG424
Professor
Trish Stringer
Semester
Fall

Description
Accept or Reject a Special Order 1 Moore Company manufactures and sells a single product called a Lop. Operating at capacity, the company can produce and sell 30,000 Lops per year. Costs associated with this level of production and sales are given below: Per 30,000 units unit per year Direct materials $15 $450,000 Direct labour 8 240,000 Variable manufacturing overhead 3 90,000 Fixed manufacturing overhead 9 270,000 Variable selling expense 4 120,000 Fixed selling expense 6 180,000 Total cost $45 $1,350,000 The Lops normally sell for $50 each. Fixed manufacturing overhead is constant at $270,000 per year within the range of 25,000 through 30,000 Lops per year. Required 1: Assume that due to a recession, Moore Co mpany expects to sell only 25,000 Lops through regular channels next year. A larg e retail chain has offered to purchase 5,000 Lops if Moore is willing to accept a 16% disc ount off the regular price. There would be no sales commissions on this order; so vari able selling expense would be slashed by 75%. However, Moore Company would have to purchase a special machine to engrave the retail chain’s name on the 5,000 units. This machine would cost $10,000. Moore Company has no assurance that the retail chain will purchase additional units in the future. Determine the impact on profits next year if this special order is accepted. Required 2: Refer to the original data. Assume again that Moore company expects to sell only 25,000 Lops through regular channels next year. Th e provincial government would pay a fixed fee of $1.80 per Lop, and it would reimburse M oore Company for all costs of production (variable and fixed) associated with the units . Since the government would pick up the Lops with its own trucks, there would be no variable selling expenses associated with this order. If Moore Company accepts the special order, by how much will profits increase or decrease for the year? Required 3: Assume the same situation as that desc ribed in (2) above, except that the company expects to sell 30,000 Lops through regular channels next year, so accepting the government’s order would require giving up regular sales of 5,000 Lops. If the government’s order is accepted, by how much will profits increase or decrease from what they would be if the 5,000 Lops were sold through regular channels? 1 From ACC322 textbook question 12-24 Solution to Special Order 1. Since the fixed costs will not change as a result of the order, they are not relevant to the decision. The cost of the new machine is relevant, and this cost will have to be recovered by the current order since there is no assurance of future business from the retail chain. Unit Total—u 5,i0s0 Revenue from the order ($50 × 84%)...........................$42.. $210,000 Less costs associated with the order: Direct materials............................................15................ 75,000 Direct labour.................................................8................ 40,000 Variable manufacturing overhead...............................3.. 15,000 Variable selling expense ($4 × 25%)...........................1. 5,000 Special machine ($10,000 ÷ 5,000 units)...................... 2 10,000 Total costs...................................................29..................145,000 Net increase in profits .....................................$13............... $ 65,000 2. Note: in this part of the question you are not told the amount that the government is willing to pay, you have to calculate that first. This is different from a lot of the other questions where you are just told “the government is willing to pay $36.80 per unit”. Revenue from the order: Reimbursement for costs of production (variable production costs of $26, plus fixed manufacturing overhead cost of $9 = $35 per unit; $35 per unit × 5,000 units).................................................$175,000......... Fixed fee ($1.80 per unit × 5,000 units)...........................................9,000. Total revenue ....................................................................184,000................. Leissremenctasts—va riable production costs ($26 per unit × 5,000 units)....................................................130,000......... Net increase in profits...........................................................$ 54,000............. OR Price the government is willing to pay = $1.80 + production costs (variable and fixed) = $1.80 + 15 + 8 + 3 + 9 = $36.80 Cost of the special order = variable costs + lost CM on lost sales There are no lost sales as the 5,000 units can be made in your present capacity The government is going to pick up the order, so no variable selling & administration fees. Cost of the special order = 15 + 8 + 3 = $26 Solution to Special Order, continued Therefore the increase/decrease to operating income is $36.80 - $26 = $10.80 x 5,000 units = $54,000 So, a $54,000 increase to operating income if the special order is taken. 3. Salersevenue: From the provincial government (above)..........................................$184,000 From regular channels ($50 per unit × 5,000 units)...............................250,000 Net decrease in revenue ............................................................(66,000)......... Less variable selling expenses avoided if the provincial government’s order is accepted ($4 per unit × 5,000 units).....................................20,000 Net decrease in profits if the provincial government’s order is accepted.. $(46,000) OR: Net Increase in Profits asabove in part 2............................... $54,000 Less: Opportunity Cost (CM LOST on regular sales 5,000 units x $20/unit........................................................... (100,000) Net Decrease in profits iforder accepted............................... .($46,000) OR Using the “selling price” as calulated in part 2 – the government is willingto pay $36.80 Cost of the special order = variablecosts + lost CM on lost sales We are now going to be losn ig sales of $5,000 units. The government is going to pick up the order, so no variable selling & administration fees on the special order BUT there are still variable selling & administration fees on the lost CM. Cost of the special order = (15 + 8 + 3) + (50 – [15 + 8 + 3 + 4]) x 5,000 units / 5,000 units = $26 + $20 = $46 Therefore the increase/decrease to operating income is $36.80 - $46 = ($9.20) x 5,000 units = ($46,000) So, a $46,000 decrease to operating income if the special order is taken. Capital Budgeting Lindstrom Ltd. is considering a proposal to acquire a new piece of manufacturing equipment. The new equipment will provide operating efficiencies in direct labour and direct materials usage. Direct labour time is expected to decrease by 10% and direct material cost is expected to decrease by 20%. In addition, the new machine will increase production and sales by 10,000 units per year. Current production and sales are 80,000 units per year. The new equipment will cost $2,000,000 and will be purchased at the beginning of 2013. The sale price and total unit cost (using the existing old equipment) are: Sale price per unit $ 60 Direct materials $ 15 Direct labour (1 hour x $12) 12 Variable overhead* (1 hour x $13) 13 Fixed overhead* (1 hour x $5) 5 Total unit cost $ 45 * Overhead is allocated on the basis of direct labour hours. The old equipment has a book value of $80,000 but Lindstrom estimates its fair market value to be $100,000. The new equipment will have a disposal value of $150,000 after its expected economic life of 10 years. Straight-line amortization is used for accounting purposes. The new equipment’s capital cost allowance rate is 20%. Lindstrom requires a 12% after-tax return on investment and has a 40% tax rate. The new equipment will require an increase in working capital of $100,000 when the equipment is put in place and an increase in working capital of $80,000 at the end of the 5thyear. Required - Determine if Lindstrom should acquire the new manufacturing equipment. Show all calculations. Solution to Capital Budgeting Initial investment – equipment ($2,000,000 – 100,000) ($1,900,000) - working capital (100,000) Tax shield on equipment ($1,900,000
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