Problem 10-24A Shutting Down or Continuing to Operate a Plant [LO10-2] Birch Com

ID: 2402831 • Letter: P

Question

Problem 10-24A Shutting Down or Continuing to Operate a Plant [LO10-2] Birch Company normally produces and sells 46,000 units of RG-6 each month. RG-6 is a small electrical relay used as a component part in the automotive industry. The selling price is $25 per unit, variable costs are $16 per unit, fixed manufacturing overhead costs total $170,000 per month, and fixed selling costs total $42,000 per month. Employment-contract strikes in the companies that purchase the bulk of the RG-6 units have caused Birch Company's sales to temporarily drop to only 12,000 units per month. Birch Company estimates that the strikes will last for two months, after which time sales of RG-6 should return to normal. Due to the current low level of sales, Birch Company is thinking about closing down its own plant during the strike, which would reduce its fixed manufacturing overhead costs by $40,000 per month and its fixed selling costs by 12%. Start up st at the end fthe shutdown period would total $12.000. Because Birch Company uses Lean Production methods, no inventories are on hand. Required 1a. Assuming that the strikes continue for two months, what is the impact on income by closing the plant? income is decrease two months

Explanation / Answer

(1) (a) Impact on Income by closing the plant :-

Saving in Fixed mfr O/H cost (40000 * 2 month)

80000

(+) Saving in Fixed selling cost (42000 * 12%) * 2 month

10080

(-) Startup cost at the end of shut down

12000

(-) Reduce Contribution [12000 units * (25 – 16)] * 2 month

216000

Decrease Net Income

137920

Net Income derease by $ 137920 in two month

(1) (b) No the birch company need not to close the plant

(2) At what level of sales (in units), the Birch company is Indifferent

Loss if plant is shutdown = Fixed cost occur + Startup cost

= (170000 – 40000) * 2 month + (42000 * 88%) * 2 month + 12000 = -345920

At Indifferent level, Net income(Loss) if plant continue in operation = Net income(Loss) if plant is shutdown

Let X be the units sold per month if plant continue in operation

[X (SP – VC) – FC ] * 2 month = -345920

[X(25 – 16) – (170000 + 42000)] * 2 month = -345920

[9X – 212000] * 2 = -345920

18X – 424000 = -345920

X = 4337.77 or 4338 units