21–39
79.
Refer to the information above. Which of the data above is a sunk cost?
80.
Refer to the information above. What are the total relevant costs of keeping the old
equipment?
Essay Questions
81.
Accounting terminology
Listed below are eight technical accounting terms introduced or emphasized in this
chapter:
Each of the following statements may (or may not) describe one of these technical terms.
In the space provided beside each statement, indicate the accounting term described, or
answer “None” if the statement does not correctly describe any of the terms.
____ (a) Data pertaining to future time periods which may vary among alternative courses
of action.
____ (b) The point at which manufacturing costs are split between finished goods inventory
and work in progress.
____ (c) The benefit foregone by pursuing one course of action over another.
____ (d) Products which emerge from common materials and shared production processes.
____ (e) A cost incurred in the past that will not change as a result of future actions.
____ (f) Costs yet to be incurred which are expected to vary under different courses of
action.
____ (g) The examination of differences between future costs and revenue under varying
courses of action.
82.
Relevant costs in business decisions
(a) Explain what is meant by each of the following terms: opportunity cost, sunk cost, and
out-of-pocket cost.
(b) Identify which, if any, of the above three types of cost would be considered relevant in
making a business decision.
83.
Incremental analysis
Information regarding current operations of the Farrell Corporation is given below:
A proposed addition to Farrell’s factory is estimated by the sales manager to increase sales
by a maximum of $750,000. The company’s accountants have determined that the
proposed addition will add $320,000 to fixed costs each year.
(a) Explain why the existing $310,000 of fixed costs is a sunk cost while the $320,000 of
fixed costs associated with the proposed addition is an out-of-pocket cost.
(b) Calculate by how much the proposed addition will either increase or reduce operating
income.
84.
Special order decision
Prudent Products Corporation manufactures and sells 1,000 motorcycle engines each
month. A primary component in each motor is an oil pump used to keep the motor
lubricated. Prudent Products has the monthly capacity to produce 1,500 oil pumps. The
variable unit costs associated with manufacturing each pump are shown below:
Fixed manufacturing overhead per month (for up to 1,500 units of production) averages
$46,000. Volk’s Autos, Inc., has offered to purchase 250 oil pumps from Prudent Products
per month to be used in its own motorcycles.
(a) Prudent Product’s average unit cost of manufacturing each oil pump if it rejects Volk’s
Autos’ order is $__________ per unit.
(b) The incremental unit cost of producing each additional oil pump is $__________ per unit.
(c) If this special order is accepted, the price per unit that Prudent Products could charge
Volk’s Autos in order to earn a $20,000 monthly pretax profit on the sale is $__________ per
unit.
85.
Pricing special orders
Explain why an American corporation might sell a product in Eastern Europe at a price
significantly below that for which it sells the same product in the United States.
86.
Links, Inc. produces golf gloves. The gloves sell for $16 each. Variable costs are $8.50 and
fixed costs are $1.50 each. An Australian company has offered to pay $12 each for 2,000
gloves. The manufacturing capacity will not be affected by this special order and it will not
affect regular sales. Fixed assets will not change but variable selling costs will increase by
$1.75 a glove due to delivery costs.
(a) What is the relevant cost per unit on this special order?
(b) How will company profits be affected?
(c) Should the company accept this special order?
87.
Scrap or rework decision
Nielson has 5,000 defective televisions on hand which cost $380,000 to manufacture.
Nielson can either sell these defective televisions as scrap for $65 per unit, or spend an
additional $120,000 on repairs and then sell the televisions for $135 per unit.
Should Nielson repair the defective TVs to sell them as scrap?
Show your supporting computations:
88.
Incremental analysis – accepting a special order
Essential Company normally produces and sells 4,000 video monitors for personal
computers each month. Variable manufacturing costs amount to $62 per unit, and fixed
manufacturing costs are $170,000 per month. The regular sales price of the monitors is
$140 per unit. The company is considering a special order from a foreign computer maker
to buy an additional 1,000 monitors per month at a special price of $70 per unit. Filling this
special order would not affect Essential Company’s regular sales volume or fixed
manufacturing costs.
(a) The average cost per unit at the 4,000-unit-per-month production level is
$_______________ per unit.
(b) The average cost per unit at the 5,000-unit-per-month production level is
$_______________ per unit.
(c) The amount of increase or decrease (indicate the correct term) in Essential Company‘s
operating income that would result from accepting the special order is $_______________.
(a) 104.50
(b) 96
(c) 8,000
Feedback:
21–48
89.
Incremental analysis – make-or-buy decision
Paramount Bikes, Inc., uses 10,000 derailleurs in its bicycles each year. Derailleurs
currently cost the company $20.90 per unit to manufacture, determined as follows:
Paramount Bikes, Inc., has been approached by an outside supplier that will provide
derailleurs at a price of $16 per unit. If Paramount Bikes, Inc., stops producing derailleurs,
the direct materials, direct labor, and variable manufacturing overhead will be eliminated,
as will $30,000 of the fixed manufacturing overhead. Use incremental analysis to determine
whether Paramount Bikes, Inc., should make or buy derailleurs. Complete the following
schedule, and indicate in the space provided your decision to continue making, or to buy
the part:
Decision: ___________________________________________
21–50
90.
Joint production decisions
Grassy Fertilizer manufactures two lines of garden grade fertilizer as part of a joint
production process: GF10 and GF20. Joint costs up to the split-off point total $85,000 per
batch. These joint costs are allocated to GF10 and GF20 in proportion to their relative sales
values at the split-off point of $40,000 and $60,000, respectively.
Both lines of garden grade fertilizer can be further processed into commercial grade
fertilizer. The following table summarizes the costs and revenue associated with additional
processing of GF10 and GF20:
(a) The $85,000 in joint costs should be allocated to each product as follows:
GF10 $____________, GF20 $____________
(b) Which product (GF10 or GF20) would result in a net decrease in operating income if
processed into a commercial grade fertilizer?
____________
(c) Which product (GF10 or GF20) would result in a net increase in operating income if
processed into a commercial grade fertilizer?
____________
91.
Make-or-buy decision
Currier, Inc., manufactures and distributes a large number of products. The costs per unit
for one product, a pole, are as follows:
Currier recently decided to buy the pole from another manufacturer for $32 per unit
because the unit cost was less than its unit cost of $34. Solely on the basis of the cost data
given, evaluate this decision.
92.
Widmark Company originally made cell phones at a cost of $60,000 that have since become
obsolete due to new technology. They can sell the phones to a dealer for scrap for $11,500
or put more work into them to bring them up-to-date. To re-do the phones would cost
$13,000 and they then could be sold for $20,000.
(A.) Should the company scrap them or rework them? (show calculations)
(B.) If the original cost had been $50,000 and the company could now sell the phones for
$25,000 what should Heston do?
93.
Limited resources
Portable Enterprises produces two lines of mobile homes: double-wide and single-wide.
Unit cost and revenue data pertaining to each product are shown below:
Each double-wide home requires 350 different labor hours and 125 machine hours. Each
single-wide home requires 175 direct labor hours and 150 machine hours. Demand for each
line of homes far exceeds the company’s total production capacity.
(a) If Portable’s production capacity is constrained by limited direct labor hours, which line
of homes should it produce? ___________________
(b) If Portable’s total production capacity is constrained by machine hours, which line of
homes should it produce? ____________________
Computations
94.
Robbins Co. has been producing a part for a camera they manufacture. The costs for this
part are as follows:
Robbins has an opportunity to purchase this part rather than manufacture it. To purchase
the part will cost $3 a unit. If the part is purchased, fixed costs will be reduced by 20%.
Should Robbins Co. make or buy this part. Show how you arrived at your decision.
95.
Seeking creative solutions to problems
Explain why it would be irresponsible and short-sighted for managers to base decisions
entirely on revenue and cost figures.