Birch Company normally produces and sells 49,000 units of RG-6 each month. RG-6
ID: 2476563 • Letter: B
Question
Birch Company normally produces and sells 49,000 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 $20 per unit, fixed manufacturing overhead costs total $150,000 per month, and fixed selling costs total $46,000 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 14,000 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 $70,000 per month and its fixed selling costs by 8%. Start-up costs at the end of the shutdown period would total $15,000. Because Birch Company uses Lean Production methods, no inventories are on hand.
At what level of sales (in units) for the two-month period should Birch Company be indifferent between closing the plant or keeping it open?
Birch Company normally produces and sells 49,000 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 $20 per unit, fixed manufacturing overhead costs total $150,000 per month, and fixed selling costs total $46,000 per month.
Explanation / Answer
1)
Contribution per unit = $25 - $20 = $5 per unit
Cost of closing down the plant:
= Loss of contribution from 14000 units per month for 2 months + Cost of starting the plant
= 14000 x $5 x 2 + $15000
= $140000 + $15000
= $155000
Savings if the plant is shut sown
= Savings in fixed cost @ $70000 for two months + Savings in fixed selling costs
= $70000 x 2 + $46000 x 2 x 8%
= $140000 + $7360
= $147360
1a) Loss on shutting down the plant = $155000 - $147360 = $7640
1b) Shutting down of plant is not recommended
2) The level of sale at which the company should be indifferent in closing the plant or keeping it open
= saving in fixed cost in closing the plant / Contribution per unit
= $147360 / $5 per unit
= 29472 units in 2 months
= 14736 units per month for the two months.
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