Drugs-R-Us, Inc., produces equipment for manufacturing drugs. The costs of manuf
ID: 2475068 • Letter: D
Question
Drugs-R-Us, Inc., produces equipment for manufacturing drugs. The costs of manufacturing and marketing this equipment at the company's normal volume of 3,000 units per month are shown in Exhibit 1.
EXHIBIT 1 - Costs per Unit for Equipment
Unit manufacturing costs:
Variable materials $200
Variable labor 300
Variable overhead 150
Fixed overhead 240
Total unit manufacturing costs $ 890
Unit marketing costs:
Variable $100
Fixed 280
Total unit marketing costs $ 380
Total unit costs $1,270
QUESTIONS
The following questions refer only to the data given above. Unless otherwise stated, assume there is no connection between the situations described in the questions; each is to be treated independently. Unless otherwise stated, a regular selling price of $1,580 per unit should be assumed. Ignore income taxes and other costs that are not mentioned in Exhibit 1 or in the question.
1. What is the contribution margin per unit and in total for the equipment? What does this mean?
2. What is the breakeven volume in units? In sales dollars?
3. Market research estimates that monthly equipment production could be increased to 3,500 units which is well within production capacity limitations, if the price were cut from $1,580 to $1,400 per unit. Assuming the cost behavior patterns implied by the data in Exhibit 1 are correct, would you recommend that this action be taken? What would be the impact on monthly sales, costs, and income?
4. Drugs-R-Us has an opportunity to enter a foreign market in which price competition is keen. An attraction of the foreign market is that demand there is greatest when demand in the domestic market is quite low; thus, idle production facilities could be used without affecting domestic business. Unlike many foreign markets there are no government restrictions. An order for 1,000 units is being sought at a below-normal price in order to enter this market. Additional shipping and handling costs for this order will amount to $150 per unit, while the cost of obtaining the contract (marketing costs) will be $8,000 in addition to the normal variable marketing costs. Domestic business would be unaffected by this order. What is the minimum (e.g. breakeven) unit price Drugs-R-Us should consider for this order of 1,000 units?
Explanation / Answer
1. Contribution margin per unit and in total for the equipment.
Contribution margin per unit is $830 and in total for the equipment is $2490,000. It means that for every sale price of $1,580 exeeds its varible cost by $830 per unit and $2,490,000 in total. Total contribution of $2,490,000 indicates it will be able to recover fixed cost up to $2,490,000.
2. Break Even Unit = Total FixedCost/ Contribution per Unit
=$1560,000/$830 per unit
= 1880 units (approx)
In Sales $ =1879.52 units* $1,580 sale price =$ 2,969,639
3.New contribution per unit = $1400-$750 =$650 per unit
As Contribution Margin Decreases by $215,000 so we would not recommend this action.
Total Sales and Varible cost increased by $160,000 and $375,000 respectively and fixed cost remain same. Net income decrease by $215,000
D.Assume x to be Sales price in foregn market. All fixed cost are irrelavant for decision making.
Per Unit$ 3000 unit $ Sales Price (A) 1,580 4,740,000 Less: Variable Cost Variable materials 200 600,000 Variable Labor 300 900,000 Variable overhead 150 450,000 Variable marketing cost 100 300,000 Total variable cost (B) 750 2,250,000 Contribution Margin C= A-B 830 2,490,000 Less Fixed Cost Fixed Manufacturing Overhead 240 720,000 Fixed Marketing Cost 280 840,000 Total Fixed Cost (D) 520 1,560,000 Net Income E=D-C 310 930,000Related Questions
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