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Chapter 3 Further Decision-Making Problems Answers to End of Chapter Exercises

 Q 3.1a £ Units Total contribution Current contribution 10 150 1500 revised contribution at reduced selling price 8 170 1360 The suggestion of the marketing manager leads to a lower contribution Q 3.2 Existing policy £ £ Selling price per unit 4 Variable costs materials 1.4 labour 1 2.4 Contribution per unit 1.6 Total contribution = £1.6 x 25,000 units = £40,000 a) Fixed costs £35,000 Break-even point = 21,875 Contribution per unit £1.60 Margin of safety 25,000 - 21875 X 100 = 12.50% 25,000 b) Proposal of the sales manager £ £ 3.6 Selling price per unit Variable costs materials 1.4 1 2.4 labour Contribution per unit 1.2 Total contribution = £1.2 x 31,250 units = £37,500 Therefore not worthwhile c) Proposal of the personnel manager
 revised contribution £1.4 Total contribution = £1.4 x 30,000 units = £42,000 less additional fixed costs £10,000 Revised profit £32,000 Therefore not worthwhile

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 Q 3.3 Component Q Buy-in price £19 Variable cost £12 Contribution £7 Hours 1.5 Contribution /hour 4.67 Product Z Selling price £17 Variable cost £12 Contribution £5 Hours 1 Contribution/hour £5

Product Z is preferable

Q 3.4

 Buy –in £ Make £ Sell 65 65 Buy 60 Make 50 Contribution 5 15

A contribution of £10 if it is made rather than bought. If it takes 4 hours then this is £2.50 per hour. It is therefore possible to pay £9.50 to pay the agency staff.

Q

Q

Q

3.5

3.6

3.7

£4,000 = 400 units

£10

The cost of the engineer is 30 hours x £12 + opportunity cost of £250 = £610. The additional resale value is £500 higher if it is repaired. It is therefore not worthwhile doing.

Rearranging the original data into a contribution statement

 Units 30,000 1 £ £ Sales 90000 3 Var. cost 60000 2 Contribution 30000 1 fixed cost 25000 Profit/loss 5000 (i) Break even = 25,000 = 25,000 units 1 (ii) Margin of safety = 30,000 – 25,000 x 100 = 16.6% 30,000 £/unit Revised selling price 2.85 Variable cost 2.00 Contribution 0.85 Volume +20% 36,000 £ Contribution 30,600

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 less fixed costs 25,000 New profit/loss 5,600

The contribution has increased and therefore if assumptions are correct this proposal may be worthwhile.

(iii) Increase wages by £0.10 per unit. Variable costs would increase to £2.10 £/unit

 Selling price/unit 3.0 Variable costs 2.1 Contribution 0.9 volume +25% 37,500 units £
 Total contribution (before additional fixed costs) 33,750 Increased fixed costs 5,000 Contribution after increased fixed costs 28,750 less original fixed costs 25,000 New Profit/(Loss) 3,750

The contribution is worse than the original contribution and therefore not worthwhile

Q 3.8

Product

Budgeted sales (units)

 A B C 2,500 3,000 3,000 £ £ £ 40 39 75 12 6 8 12 20 32 5 4 13 29 30 53 11 9 22 27500 27000 66000

Sales price per unit

Variable cost per unit Material (1kg of material costs £6) Labour (pay is £8 per hour)

Total variable cost per unit

Contribution per unit

Total contribution

Fixed overhead (Note 1) = 2,500 x £6 + 3,000 x 10 + 3,000 x 16 =

Profit

£

120,500

93,000

27,500

b) It makes a contribution of £27,500

c) Not on commercial grounds as the variable cost is £2 per unit less. Quality, time, future cost, strategy might be other factors to consider

d) If sales are increased by 20%, contributions will increase by £24,100. This is not worthwhile as costs go up by £30,000 If an in incentive scheme of £2 an hour contribution will be

 Revised contribution per unit £ 8 4 14 Sales units per product (+15%) 2875 3450 3450 Revised contribution £ 23,000 138,000 18,300 85,100

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Not worthwhile as contribution gone down by 35,400

 e) kgs required = 2500 x 2 + 3000 x 1 + 3,000x 1.33 = 11,990 kgs. Therefore materal is a constraint Labour is 2,500 x 1.5 + 3,000 x 2.5 + 3,000 x 4 = 23,250 hours which is not a constraint Optimum production plan is based on contribution per kg. Contribution £ kgs Contribution £ per kg 11 8 22 2 1 1.33 5.5 8 16.54 The optimum production would be product C followed by product B and finally product A Units kgs Cumulative kgs kgs remaining Contribution £ C 3000 4000 4000 6000 66,000 B 3000 3000 7000 3000 27,000 A 1500 3000 3000 0 16,500 109,500 Fixed costs 93,000 Profit 16,500 Q 3.9 a) Area 1 Area 2 Area 3 No. clients Average billing £ 200 150 120 1680 1400 1800 £ £ £ Revenue 336,000 210,000 216,000 Carers cost 120,000 90,000 72,000 Consumables 40,000 60,000 48,000 Supervisors bonus 3,360 2,100 2,160 Office cost 50,000 37,000 30,000 Total cost 231,360 189,600 152,160 Contribution 122,640 20,400 63,840 206,880 b) Area 2 should not be closed as it makes a contribution of £20,400

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 c) Alternative 1 Area 1 Area 2 Area 3 No. clients Average billing £ 200 150 120 2000 2000 2000 £ £ £ Revenue 400,000 300,000 240,000 Carers cost 180,000 135,000 108,000 Consumables 80,000 120,000 96,000 Supervisors bonus 4,000 3,000 2,400 Office cost 50,000 37,500 30,000 Total cost 314,000 295,500 236,400 Contribution 86,000 4,500 3,600 94,100 Alternative 1 is not worthwhile d) Alternative 2 Area 1 Area 2 Area 3 No. clients Average billing £ 200 150 120 1764 1470 1890 £ £ £ Revenue Carers cost Consumables Supervisors bonus Office cost 352,800 220,500 226,800 120,000 90,000 72,000 40,000 60,000 48,000 3,528 2,100 2,160 50,000 37,500 30,000 Additional fixed costs Total cost Contribution 5,300 5,301 5,302 218,282 194,901 157,462 133,972 25,599 69,338 288,909 Alternative 2 is worthwhile Q 3.10 £ Labour 10,000 Material 6,000 Machinery 0 Product development 0 Overhead 0 Additional cost 16,000

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 Q 3.11 a) £ Material A 6,000 Material B 15,300 Material C 10800 Direct labour 24000 Depreciation 500 Supervisor 11,000 Total cost 67,600 b) Relevant cost is £67,600. The company can gain a contribution on any price above this minimum level. If the contract is important for strategic reasons or if demand is very low then a low price may be quoted. The management will need to make a commercial judgement of the importance of the contract.

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