20 Aug Problem 1 Mesa Company has not had a profitable year. Below is the Company’s Income Statement for the year, in the Contribution Format: The Mesa Company Contribution Income Statement

Problem 1

Mesa Company has not had a profitable year. Below is the Company’s Income Statement for the year, in the Contribution Format:

The Mesa Company

Contribution Income Statement

For the fiscal year-ending 12/31/20×1

Sales

$400,000

Less: Variable costs

Direct materials

$50,000

Direct labor

140,000

Variable manufacturing overhead

60,000

Variable selling and administrative expenses

50,000

300,000

Total contribution margin

$100,000

Less: Fixed costs

Fixed factory overhead

50,000

Fixed selling and administrative expenses

60,000

110,000

Operating income (loss)

($10,000)

During the year, the company produced and sold 10,000 units at a selling price of $40 per unit.

Required

A.Currently the company has an operating loss of $10,000. Management asks you to calculate the amount of sales dollars and level of sales volume at which Mesa’s operating income will be at break-even.

B.Suppose the company management would like to achieve an annual profit (i.e. operating income) of $35,000, determine the amount of sales dollars and number of units they would have to sell in order to achieve their desired profit level.

C.The company’s sales manager proposes the following:

a.Change the advertising approach from network television to an on-line model which should reduce advertising expenses by $5,000, but target the company’s promotional activities to the right customer.

b.Deliver the product in a more exciting and attractive package, which would cost an additional $3 per unit sold.

c.Move to 1-day delivery for all on-line sales, which are about 40% of total unit sales. One-day delivery would increase delivery charges by $1.50 per unit.

d.The sales manager believes that with these changes “our unit sales will double for sure”.

Based on the sales manager’s suggestions and estimates, prepare an analysis of the implications for operating income of adopting the sales manager’s recommendation.

D.Based on your analysis in C., should the company make the sales manager’s proposed changes? Please show your work.

Problem 2

Overlander, Inc. manufactures and sells chemicals used by companies in the pharmaceutical industry. One of the “special” chemical compounds (i.e. an ingredient in their chemical products) used in developing their final chemical mix, called Xp7r, has a cost of production, per 100 gallons (which they call a “batch”), as follows:

Production Cost per batch to produce Xp7r

Liquid components of chemical

$270

Wages for chemical mixers

200

Variable manufacturing overhead

250

Fixed manufacturing overhead

400

Total

$1,120

Fixed manufacturing overhead represents allocation of various fixed costs related to the production process such as depreciation, supervisor’s salaries, and production plant administration costs.

In the current year, Overlander will use 20,000 gallons of Xpr7 in their production process.

Overlander has received an outsider supplier’s bid to provide Overlander, Inc. with this special compound Xp7r. The supplier’s total price for 20,000 gallons of Xp7r is $160,000.

Required

A.Based on the facts above, evaluate the outside supplier’s offer and make a recommendation to Overlander, Inc., i.e. should they accept the offer. Please show your analysis in support of your recommendation.

B.After looking at your analysis, but before making their decision, Overlander’s management examined their opportunities and related opportunity costs, if they allowed an outside supplier for Xp7r. Based on their analysis, if the accept the outside supplier’s bid, they can:

a.Shift the activities one supervisory job from Xpr7 to other in-house supervisory activities. The supervisor’s salary is $52,000

b.Use the available excess production capabilities to produce a new product that will generate additional $90,000 of additional revenue. In considering the profitability of the new product, the company estimates the related costs to be:

Based on the additional opportunity costs and benefits discussed in part B., evaluate the supplier’s proposal taking into consideration the facts provided in B. above and make a recommendation to Overlander on whether they should accept the outside supplier’s price. Please show your analysis in support of your recommendation.

C.If the company were to accept the outside supplier’s bid, suggest at least 3 qualitative issues that the company should consider before making their decisions.