TufStuff, Inc., sells a wide range of drums, bins, boxes, and other containers that are used in the chemical industry. One of the company’s products is a heavy-duty corrosion-resistant metal drum, called the WVD drum, used to store toxic wastes. Production is constrained by the capacity of an automated welding machine that is used to make precision welds. A total of 2,400 hours of welding time is available annually on the machine. Because each drum requires 0.8 hours of welding machine time, annual production is limited to 3,000 drums. At present, the welding machine is used exclusively to make the WVD drums.
The accounting department has provided the following financial data concerning the WVD drums:
WVD Drums Selling price per drum $ 170.00
Cost per drum:
Direct materials $46.60
Direct labor ($18 per hour) 4.50
Manufacturing overhead 5.25
Selling and administrative expense 17.50 73.85
Margin per drum $ 96.15
Management believes 3,500 WVD drums could be sold each year if the company had sufficient manufacturing capacity. As an alternative to adding another welding machine, management has considered buying additional drums from an outside supplier. Harcor Industries, Inc., a supplier of quality products, would be able to provide up to 1,500 WVD-type drums per year at a price of $130 per drum, which TufStuff would resell to its customers at its normal selling price after appropriate relabeling.
Megan Flores, TufStuff’s production manager, has suggested that the company could make better use of the welding machine by manufacturing bike frames, which would require only 0.2 hours of welding machine time per frame and yet sell for far more than the drums. Megan believes that TufStuff could sell up to 3,900 bike frames per year to bike manufacturers at a price of $75 each. The accounting department has provided the following data concerning the proposed new product:
Bike Frames
Selling price per frame $ 75.00
Cost per frame:
Direct materials $19.60
Direct labor ($18 per hour) 22.50
Manufacturing overhead 17.85
Selling and administrative expense 8.60 68.55
Margin per frame $ 6.45
The bike frames could be produced with existing equipment and personnel. Manufacturing overhead is allocated to products on the basis of direct labor-hours. Most of the manufacturing overhead consists of fixed common costs such as rent on the factory building, but some of it is variable. The variable manufacturing overhead has been estimated at $1.26 per WVD drum and $2.70 per bike frame. The variable manufacturing overhead cost would not be incurred on drums acquired from the outside supplier.
Selling and administrative expenses are allocated to products on the basis of revenues. Almost all of the selling and administrative expenses are fixed common costs, but it has been estimated that variable selling and administrative expenses amount to $1.06 per WVD drum whether made or purchased and would be $2.50 per bike frame.
All of the company’s employees—direct and indirect—are paid for full 40-hour workweeks and the company has a policy of laying off workers only in major recessions. Required: 1. Would you be comfortable relying on the financial data provided by the accounting department for making decisions related to the WVD drums and bike frames? Select an idea from the Case and explain your personal position.
Required:
1. Would you be comfortable relying on the financial data provided by the accounting department for making decisions related to the WVD drums and bike frames?
2. Compute the contribution margin per unit for [assume direct labor is a fixed cost]: (Do not round intermediate calculations. Round your answers to 2 decimal places.)
Select an idea from the case and explain your personal position.