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Making
Chapter Thirteen
McGraw-Hill/Irwin
13-2
Learning Objective 1
McGraw-Hill/Irwin
13-3
McGraw-Hill/Irwin
13-4
13-5
McGraw-Hill/Irwin
13-6
McGraw-Hill/Irwin
13-7
1
2
3
4
5
6
Annual Cost
of Fixed Items
$
2,800
1,380
360
Cost per
Mile
$
0.280
0.050
0.138
0.065
0.036
$
0.569
McGraw-Hill/Irwin
13-8
1
2
3
4
5
6
7
8
9
10
11
12
13
McGraw-Hill/Irwin
Annual Cost
of Fixed Items
$
2,800
1,380
360
Cost per
Mile
$
0.280
0.050
0.138
0.065
0.036
$
0.569
$ 0.026
$
104
????
$
40
????
????
$
25
13-9
13-10
The monthly
school parking
fee is not
relevant because
it must be paid if
Cynthia drives or
takes the train.
13-11
McGraw-Hill/Irwin
13-12
McGraw-Hill/Irwin
13-13
$ 23.00
29.90
11.96
50.00
$ 114.86
McGraw-Hill/Irwin
13-14
McGraw-Hill/Irwin
Current
Situation
$
200,000
Situation
With New
Machine
$
200,000
Differential
Costs and
Benefits
-
70,000
40,000
10,000
120,000
80,000
70,000
25,000
10,000
105,000
95,000
15,000
15,000
62,000
62,000
18,000
62,000
3,000
65,000
30,000
(3,000)
(3,000)
12,000
13-15
Situation
With New
Machine
$
200,000
Differential
Costs and
Benefits
-
70,000
40,000
10,000
120,000
80,000
70,000
25,000
10,000
105,000
95,000
15,000
15,000
62,000
3,000
65,000
30,000
(3,000)
(3,000)
12,000
McGraw-Hill/Irwin
$
$
15,000
(3,000)
12,000
13-16
13-17
Learning Objective 2
Prepare an analysis
showing whether a
product line or other
business segment should
be dropped or retained.
McGraw-Hill/Irwin
13-18
Adding/Dropping Segments
One of the most important decisions
managers make is whether to add or
drop a business segment, such as a
product or a store.
McGraw-Hill/Irwin
13-19
Adding/Dropping Segments
McGraw-Hill/Irwin
13-20
McGraw-Hill/Irwin
13-21
Adding/Dropping Segments
Segment Income Statement
Digital Watches
Sales
Less: variable expenses
Variable manufacturing costs
Variable shipping costs
Commissions
Contribution margin
Less: fixed expenses
General factory overhead
Salary of line manager
Depreciation of equipment
Advertising - direct
Rent - factory space
General admin. expenses
Net operating loss
McGraw-Hill/Irwin
$ 500,000
$ 120,000
5,000
75,000
$ 60,000
90,000
50,000
100,000
70,000
30,000
200,000
$ 300,000
400,000
$ (100,000)
13-22
Adding/Dropping Segments
Segment Income Statement
Digital Watches
Sales
$ 500,000
Less:
variable expenses
Investigation
has revealed that total fixed general
Variable manufacuring costs $ 120,000
factory overhead and general
Variable shipping costs
5,000
administrative
expenses would75,000
not be affected
if
Commissions
200,000
Contribution
margin
$ 300,000
the digital
watch line is dropped. The fixed
Less: fixed
expenses
general
factory overhead and general
General factory overhead
$ 60,000
administrative
expenses assigned
to this product
Salary of line manager
90,000
would be of
reallocated
product lines.
Depreciation
equipment to other
50,000
Advertising - direct
100,000
Rent - factory space
70,000
General admin. expenses
30,000
400,000
Net operating loss
$ (100,000)
McGraw-Hill/Irwin
13-23
Adding/Dropping Segments
Segment Income Statement
Digital Watches
Sales
$ 500,000
Less: variable expenses
Variable
manufacturing
$ 120,000
The
equipment
usedcosts
to manufacture
Variable
shipping
costshas no resale
5,000
digital
watches
Commissions
75,000
200,000
value
or alternative use.
Contribution
margin
$ 300,000
Less: fixed expenses
General factory overhead
$ 60,000
Salary of line manager
90,000
Depreciation of equipment
50,000
Should Lovell
retain or drop
Advertising - direct
100,000
Rent - factory space the digital watch
70,000 segment?
General admin. expenses
30,000
400,000
Net operating loss
$ (100,000)
McGraw-Hill/Irwin
13-24
McGraw-Hill/Irwin
$ (300,000)
260,000
$ (40,000)
13-25
McGraw-Hill/Irwin
13-26
margin.
McGraw-Hill/Irwin
13-27
McGraw-Hill/Irwin
13-28
McGraw-Hill/Irwin
Difference
$ (500,000)
120,000
5,000
75,000
200,000
(300,000)
90,000
13-29
McGraw-Hill/Irwin
13-30
McGraw-Hill/Irwin
Difference
$ (500,000)
120,000
5,000
75,000
200,000
(300,000)
90,000
100,000
70,000
260,000
$ (40,000)
13-31
McGraw-Hill/Irwin
13-32
McGraw-Hill/Irwin
13-33
McGraw-Hill/Irwin
13-34
Learning Objective 3
McGraw-Hill/Irwin
13-35
McGraw-Hill/Irwin
13-36
Smoother flow of
parts and materials
Better quality
control
Realize profits
McGraw-Hill/Irwin
13-37
13-38
McGraw-Hill/Irwin
9
5
1
3
2
10
$ 30
13-39
13-40
$ 25
Direct materials
Direct labor
Variable overhead
Depreciation of equip.
Supervisor's salary
General factory overhead
Total cost
9
5
1
3
2
10
$ 30
$ 500,000
13-41
$ 25
Direct materials
Direct labor
Variable overhead
Depreciation of equip.
Supervisor's salary
General factory overhead
Total cost
9
5
1
3
2
10
$ 30
$ 500,000
13-42
$ 25
Direct materials
Direct labor
Variable overhead
Depreciation of equip.
Supervisor's salary
General factory overhead
Total cost
9
5
1
3
2
10
$ 30
$ 500,000
13-43
$ 25
Direct materials
Direct labor
Variable overhead
Depreciation of equip.
Supervisor's salary
General factory overhead
Total cost
9
5
1
3
2
10
$ 30
$ 500,000
13-44
Opportunity Cost
An opportunity cost is the benefit that is foregone as
a result of pursuing some course of action.
Opportunity costs are not actual dollar outlays and
are not recorded in the formal accounts of an
organization.
How would this concept potentially relate to the
Essex Company?
McGraw-Hill/Irwin
13-45
Learning Objective 4
Prepare an analysis
showing whether a special
order should be accepted.
McGraw-Hill/Irwin
13-46
McGraw-Hill/Irwin
13-47
Special Orders
Jet, Inc. makes a single product whose normal selling price
is $20 per unit.
A foreign distributor offers to purchase 3,000 units for $10
per unit.
This is a one-time order that would not affect the
companys regular business.
Annual capacity is 10,000 units, but Jet, Inc. is currently
producing and selling only 5,000 units.
McGraw-Hill/Irwin
13-48
Special Orders
Jet, Inc.
Contribution Income Statement
Revenue (5,000 $20)
$ 100,000
Variable costs:
Direct materials
$ 20,000
Direct labor
5,000
Manufacturing overhead
10,000 $8 variable cost
Marketing costs
5,000
Total variable costs
40,000
Contribution margin
60,000
Fixed costs:
Manufacturing overhead $ 28,000
Marketing costs
20,000
Total fixed costs
48,000
Net operating income
$ 12,000
McGraw-Hill/Irwin
13-49
Special Orders
If Jet accepts the offer, net operating income will
increase by $6,000.
Increase in revenue (3,000 $10)
Increase in costs (3,000 $8 variable cost)
Increase in net income
$ 30,000
24,000
$ 6,000
13-50
Quick Check
Northern Optical ordinarily sells the X-lens for $50.
The variable production cost is $10, the fixed
production cost is $18 per unit, and the variable
selling cost is $1. A customer has requested a
special order for 10,000 units of the X-lens to be
imprinted with the customers logo. This special
order would not involve any selling costs, but
Northern Optical would have to purchase an
imprinting machine for $50,000.
(see the next page)
McGraw-Hill/Irwin
13-51
Quick Check
What is the rock bottom minimum price below which
Northern Optical should not go in its negotiations
with the customer? In other words, below what
price would Northern Optical actually be losing
money on the sale? There is ample idle capacity to
fulfill the order and the imprinting machine has no
further use after this order.
a. $50
b. $10
c. $15
d. $29
McGraw-Hill/Irwin
13-52
Quick Check
What is the rock bottom minimum price below which
Northern Optical should not go in its negotiations
with the customer? In other words, below what
price would Northern Optical actually be losing
money on the sale? There is ample idle capacity to
fulfill the order and the imprinting machine has no
further use after this order.
Variable production cost
$100,000
a. $50
Additional fixed cost
+ 50,000
b. $10
Total relevant cost
$150,000
c. $15 Number of units
10,000
d. $29 Average cost per unit =
$15
McGraw-Hill/Irwin
13-53
Learning Objective 5
McGraw-Hill/Irwin
13-54
13-55
McGraw-Hill/Irwin
13-56
1
Selling price per unit
Less variable expenses per unit
Contribution margin per unit
Current demand per week (units)
Contribution margin ratio
Processing time required
on machine A1 per unit
McGraw-Hill/Irwin
60
36
$ 24
2,000
40%
1.00 min.
50
35
$ 15
2,200
30%
0.50 min.
13-57
13-58
Quick Check
How many units of each product can be
processed through Machine A1 in one minute?
a.
b.
c.
d.
McGraw-Hill/Irwin
Product 1
1 unit
1 unit
2 units
2 units
Product 2
0.5 unit
2.0 units
1.0 unit
0.5 unit
13-59
Quick Check
How many units of each product can be
processed through Machine A1 in one minute?
a.
b.
c.
d.
Product 1
1 unit
1 unit
2 units
2 units
Product 2
0.5 unit
2.0 units
1.0 unit
0.5 unit
13-60
Quick Check
13-61
Quick Check
With one minute of machine A1, we could
makegenerates
1 unit of Product
1, with
a contribution
What
more profit
for the
company,
margin
$24, or
units of A1
Product
2, each
using
oneof
minute
of2machine
to process
contribution
margin
of $15. A1
Productwith
1 ora using
one minute
of machine
to process Product
2?= $30 > $24
2 $15
a. Product 1
b. Product 2
c. They both would generate the same profit.
d. Cannot be determined.
McGraw-Hill/Irwin
13-62
24
$
15
1.00 min.
0.50 min.
$
24
$
30
13-63
24
$
15
1.00 min.
0.50 min.
$
24
$
30
13-64
McGraw-Hill/Irwin
2,200 units
0.50 min.
1,100 min.
13-65
McGraw-Hill/Irwin
2,200 units
0.50 min.
1,100 min.
2,400 min.
1,100 min.
1,300 min.
13-66
McGraw-Hill/Irwin
2,200 units
0.50 min.
1,100 min.
2,400
1,100
1,300
1.00
1,300
min.
min.
min.
min.
units
13-67
Product 1
1,300
$
24
$ 31,200
Product 2
2,200
$
15
$ 33,000
McGraw-Hill/Irwin
13-68
Quick Check
Colonial Heritage makes reproduction colonial
furniture from select hardwoods.
Chairs
Selling price per unit
$80
Variable cost per unit
$30
Board feet per unit
2
Monthly demand
600
Tables
$400
$200
10
100
13-69
Quick Check
Colonial Heritage makes reproduction colonial
furniture from select hardwoods.
Chairs
Selling price per unit
$80
Variable cost per unit
$30
Board feet per unit
2
Monthly demand
600
Tables
$400
$200
10
100
13-70
Quick Check
Chairs
Selling price per unit
$80
Variable cost per unit
$30
Board feet per unit
2
Monthly demand
600
Tables
$400
$200
10
100
13-71
Quick Check
Chairs Tables
Selling price
$ 80 $ 400
Chairs Tables
Variable
200
Selling price per
unit cost$80
$400 30
Variable cost Contribution
per unit
$30
margin $200
$ 50 $ 200
Board feet per unit
2
10
Board feet
2
10
Monthly demand
600
100
CM per board foot
$ 25 $ 20
13-72
Quick Check
As before, Colonial Heritages supplier of hardwood will
only be able to supply 2,000 board feet this month.
Assume the company follows the plan we have
proposed. Up to how much should Colonial Heritage be
willing to pay above the usual price to obtain more
hardwood?
a. $40 per board foot
b. $25 per board foot
c. $20 per board foot
d. Zero
McGraw-Hill/Irwin
13-73
Quick Check
As before, Colonial Heritages supplier of hardwood will
The
additional
wood
would
used
to make
only be
able to supply
2,000
boardbe
feet
this month.
tables.
In this use,
each
board
foot of
Assume
the company
follows
the plan
we have
proposed. Up
to how
should
Heritage
be
additional
wood
willmuch
allow
the Colonial
company
to earn
willing
to pay above
price to obtain
more and
an
additional
$20the
of usual
contribution
margin
hardwood?
profit.
a. $40 per board foot
b. $25 per board foot
c. $20 per board foot
d. Zero
McGraw-Hill/Irwin
13-74
Managing Constraints
Finding ways to
process more units
through a resource
bottleneck
McGraw-Hill/Irwin
13-75
Learning Objective 6
Prepare an analysis
showing whether joint
products should be sold at
the split-off point or
processed further.
McGraw-Hill/Irwin
13-76
Joint Costs
In some industries, a number of end
products are produced from a single raw
material input.
Two or more products produced from a
common input are called joint products.
The point in the manufacturing process
where each joint product can be
recognized as a separate product is
called the split-off point.
McGraw-Hill/Irwin
13-77
Joint Products
Oil
Joint
Input
Common
Production
Process
Gasoline
Chemicals
Split-Off
Point
McGraw-Hill/Irwin
13-78
Joint Products
Joint
Costs
Joint
Input
Common
Production
Process
Oil
Gasoline
Chemicals
Split-Off
Point
McGraw-Hill/Irwin
Separate
Processing
Final
Sale
Final
Sale
Separate
Processing
Final
Sale
Separate
Product
Costs
Copyright 2008, The McGraw-Hill Companies, Inc.
13-79
13-80
McGraw-Hill/Irwin
13-81
McGraw-Hill/Irwin
13-82
McGraw-Hill/Irwin
Per Log
Lumber
Sawdust
$
140
$
40
270
176
50
50
24
20
13-83
McGraw-Hill/Irwin
Lumber
Sawdust
270
140
130
50
40
10
13-84
McGraw-Hill/Irwin
Lumber
Sawdust
270
140
130
50
80
50
40
10
20
(10)
13-85
Lumber
Sawdust
270
140
130
50
80
50
40
10
20
(10)
McGraw-Hill/Irwin
13-86
McGraw-Hill/Irwin
13-87
End of Chapter 13
McGraw-Hill/Irwin