TufStuff, Inc., sells a wide range of drums, bins, boxes, and other containers t

Question

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 2,200 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 2,750 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 $ 176.00 Cost per drum: Direct materials $46.40 Direct labor ($18 per hour) 4.50 Manufacturing overhead 5.05 Selling and administrative expense 17.30 73.25 Margin per drum $ 102.75 Management believes 3,250 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 1,900 WVD-type drums per year at a price of $150 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 3,700 bike frames per year to bike manufacturers at a price of $77 each. The accounting department has provided the following data concerning the proposed new product: Bike Frames Selling price per frame $ 77.00 Cost per frame: Direct materials $19.40 Direct labor ($18 per hour) 22.50 Manufacturing overhead 17.65 Selling and administrative expense 8.40 67.95 Margin per frame $ 9.05 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 $1.24 per WVD drum and $2.50 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 $1.04 per WVD drum whether made or purchased and would be $2.30 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.

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.)
3. As soon as your analysis was shown to the top management team at TufStuff, several managers got into an argument concerning how direct labor costs should be treated when making this decision. One manager argued that direct labor is always treated as a variable cost in textbooks and in practice and has always been considered a variable cost at TufStuff. After all, “direct” means you can directly trace the cost to products. “If direct labor is not a variable cost, what is?” Another manager argued just as strenuously that direct labor should be considered a fixed cost at TufStuff. No one had been laid off in over a decade, and for all practical purposes, everyone at the plant is on a monthly salary. Everyone classified as direct labor works a regular 40-hour workweek and overtime has not been necessary since the company adopted Lean Production techniques. Whether the welding machine is used to make drums or frames, the total payroll would be exactly the same. There is enough slack, in the form of idle time, to accommodate any increase in total direct labor time that the bike frames would require. a. Compute the contribution margin per welding hour for [assume direct labor is a fixed cost]: (Round your final answers to 2 decimal places.)
b. Determine the number of WVD drums (if any) that should be purchased and the number of WVD drums and/or bike frames (if any) that should be manufactured. [Assume direct labor is a fixed cost]
c. What is the increase in net operating income that would result from this plan over current operations? (Do not round intermediate calculations.)
4. Redo requirements (2) and (3) making the opposite assumption about direct labor from the one you originally made. In other words, if you treated direct labor as a variable cost, redo the analysis treating it as a fixed cost. If you treated direct labor as a fixed cost, redo the analysis treating it as a variable cost. a. Compute the contribution margin per unit for [assume direct labor is a variable cost]: (Do not round intermediate calculations. Round your answers to 2 decimal places.)
b. Compute the contribution margin per welding hour for [assume direct labor is a variable cost]: (Round your final answers to 2 decimal places.)
c. Determine the number of WVD drums (if any) that should be purchased and the number of WVD drums and/or bike frames (if any) that should be manufactured. [Assume direct labor is a variable cost]
d. What is the increase in net operating income that would result from this plan over current operations? (Do not round intermediate calculations.)
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 2,200 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 2,750 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 $ 176.00 Cost per drum: Direct materials $46.40 Direct labor ($18 per hour) 4.50 Manufacturing overhead 5.05 Selling and administrative expense 17.30 73.25 Margin per drum $ 102.75 Management believes 3,250 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 1,900 WVD-type drums per year at a price of $150 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 3,700 bike frames per year to bike manufacturers at a price of $77 each. The accounting department has provided the following data concerning the proposed new product: Bike Frames Selling price per frame $ 77.00 Cost per frame: Direct materials $19.40 Direct labor ($18 per hour) 22.50 Manufacturing overhead 17.65 Selling and administrative expense 8.40 67.95 Margin per frame $ 9.05 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 $1.24 per WVD drum and $2.50 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 $1.04 per WVD drum whether made or purchased and would be $2.30 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.

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.)
3. As soon as your analysis was shown to the top management team at TufStuff, several managers got into an argument concerning how direct labor costs should be treated when making this decision. One manager argued that direct labor is always treated as a variable cost in textbooks and in practice and has always been considered a variable cost at TufStuff. After all, “direct” means you can directly trace the cost to products. “If direct labor is not a variable cost, what is?” Another manager argued just as strenuously that direct labor should be considered a fixed cost at TufStuff. No one had been laid off in over a decade, and for all practical purposes, everyone at the plant is on a monthly salary. Everyone classified as direct labor works a regular 40-hour workweek and overtime has not been necessary since the company adopted Lean Production techniques. Whether the welding machine is used to make drums or frames, the total payroll would be exactly the same. There is enough slack, in the form of idle time, to accommodate any increase in total direct labor time that the bike frames would require. a. Compute the contribution margin per welding hour for [assume direct labor is a fixed cost]: (Round your final answers to 2 decimal places.)
b. Determine the number of WVD drums (if any) that should be purchased and the number of WVD drums and/or bike frames (if any) that should be manufactured. [Assume direct labor is a fixed cost]
c. What is the increase in net operating income that would result from this plan over current operations? (Do not round intermediate calculations.)
4. Redo requirements (2) and (3) making the opposite assumption about direct labor from the one you originally made. In other words, if you treated direct labor as a variable cost, redo the analysis treating it as a fixed cost. If you treated direct labor as a fixed cost, redo the analysis treating it as a variable cost. a. Compute the contribution margin per unit for [assume direct labor is a variable cost]: (Do not round intermediate calculations. Round your answers to 2 decimal places.)
b. Compute the contribution margin per welding hour for [assume direct labor is a variable cost]: (Round your final answers to 2 decimal places.)
c. Determine the number of WVD drums (if any) that should be purchased and the number of WVD drums and/or bike frames (if any) that should be manufactured. [Assume direct labor is a variable cost]
d. What is the increase in net operating income that would result from this plan over current operations? (Do not round intermediate calculations.)
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 2,200 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 2,750 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 $ 176.00 Cost per drum: Direct materials $46.40 Direct labor ($18 per hour) 4.50 Manufacturing overhead 5.05 Selling and administrative expense 17.30 73.25 Margin per drum $ 102.75 Management believes 3,250 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 1,900 WVD-type drums per year at a price of $150 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 3,700 bike frames per year to bike manufacturers at a price of $77 each. The accounting department has provided the following data concerning the proposed new product: Bike Frames Selling price per frame $ 77.00 Cost per frame: Direct materials $19.40 Direct labor ($18 per hour) 22.50 Manufacturing overhead 17.65 Selling and administrative expense 8.40 67.95 Margin per frame $ 9.05 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 $1.24 per WVD drum and $2.50 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 $1.04 per WVD drum whether made or purchased and would be $2.30 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.

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.)
3. As soon as your analysis was shown to the top management team at TufStuff, several managers got into an argument concerning how direct labor costs should be treated when making this decision. One manager argued that direct labor is always treated as a variable cost in textbooks and in practice and has always been considered a variable cost at TufStuff. After all, “direct” means you can directly trace the cost to products. “If direct labor is not a variable cost, what is?” Another manager argued just as strenuously that direct labor should be considered a fixed cost at TufStuff. No one had been laid off in over a decade, and for all practical purposes, everyone at the plant is on a monthly salary. Everyone classified as direct labor works a regular 40-hour workweek and overtime has not been necessary since the company adopted Lean Production techniques. Whether the welding machine is used to make drums or frames, the total payroll would be exactly the same. There is enough slack, in the form of idle time, to accommodate any increase in total direct labor time that the bike frames would require. a. Compute the contribution margin per welding hour for [assume direct labor is a fixed cost]: (Round your final answers to 2 decimal places.)
b. Determine the number of WVD drums (if any) that should be purchased and the number of WVD drums and/or bike frames (if any) that should be manufactured. [Assume direct labor is a fixed cost]
c. What is the increase in net operating income that would result from this plan over current operations? (Do not round intermediate calculations.)
4. Redo requirements (2) and (3) making the opposite assumption about direct labor from the one you originally made. In other words, if you treated direct labor as a variable cost, redo the analysis treating it as a fixed cost. If you treated direct labor as a fixed cost, redo the analysis treating it as a variable cost. a. Compute the contribution margin per unit for [assume direct labor is a variable cost]: (Do not round intermediate calculations. Round your answers to 2 decimal places.)
b. Compute the contribution margin per welding hour for [assume direct labor is a variable cost]: (Round your final answers to 2 decimal places.)
c. Determine the number of WVD drums (if any) that should be purchased and the number of WVD drums and/or bike frames (if any) that should be manufactured. [Assume direct labor is a variable cost]
d. What is the increase in net operating income that would result from this plan over current operations? (Do not round intermediate calculations.)

Explanation / Answer

2. Compute the contribution margin per unit for [assume direct labor is a fixed cost]:

Manufactured

Purchased WVD Drums

Manufactured WVD Drums

Bike Frames

Selling price

$176.00

$176.00

$77.00

Variable costs:

Direct materials

150.00

46.40

19.40

Variable manufacturing overhead

0.00

1.24

2.50

Variable selling and administrative

     1.04

1.04

2.30

Total variable cost

151.04

   48.68

24.20

Contribution margin

$ 24.96

$ 127.32

$52.80

3. a. Compute the contribution margin per welding hour for [assume direct labor is a fixed cost]:

Manufactured

WVD Drums

Bike Frames

Contribution margin per unit (calculated above)

   127.32

52.8

Welding hours per unit

0.8 hour

0.2 hour

Contribution margin per welding hour
= contribution margin per unit / Welding hours per unit

$159.15
per hour

$264
per hour

Here, from the above calculation we can see clearly that the contribution margin per welding hour is more for the bike frames than for the WVD drums, Therefore, the Bike frames make the most profitable use of the welding machine. Thus, company first manufacture as many bike frames as possible up to demand and then use any leftover capacity to produce WVD drums to maximize their profit.

3. b. Determine the number of WVD drums (if any) that should be purchased and the number of WVD drums and/or bike frames (if any) that should be manufactured. [Assume direct labor is a fixed cost]

Quantity

Welding Time per Unit

Total Welding Time

Balance of Welding Time

Total hours available

2,200

Bike frames produced

3,700

0.2

3,700*0.2= 740

1,460

WVD Drums—make

1,460/0.8 = 1,825

0.8

1,460

     0

WVD Drums—buy

3,250-875 = 1,425

3. c. What is the increase in net operating income that would result from this plan over current operations? (Do not round intermediate calculations.)

(a)

(b)

(a) × (b)

Quantity

Unit Contri-bution Margin

Total Contri-bution

Bike frames produced

3,700

$52.8

$195,360

WVD Drums—make

1,825

$127.32

232,359

WVD Drums—buy

1,425

$24.96

   35,568

Total contribution margin

463,287

Less: Contribution margin from present operations: 2,750 drums × $127.32 Contribution margin per drum

350,130

Increased contribution margin and net operating income

$ 113,157

4. a. Compute the contribution margin per unit for [assume direct labor is a variable cost]:

Manufactured

Purchased WVD Drums

WVD Drums

Bike Frames

Selling price

$176.00

$176.00

$77.00

Variable costs:

Direct materials

150.00

46.40

19.40

Direct labor

0.00

4.50

22.50

Variable manufacturing overhead

0.00

1.24

2.50

Variable selling and administrative

     1.04

1.04

2.30

Total variable cost

151.04

53.18

46.70

Contribution margin

$24.96

$122.82

30.30

4. b. Compute the contribution margin per welding hour for [assume direct labor is a variable cost]:

Manufactured

WVD Drums

Bike Frames

Contribution margin per unit (calculated above)

   122.82

30.30

Welding hours per unit

0.8 hour

0.2 hour

Contribution margin per welding hour
= contribution margin per unit / Welding hours per unit

$153.53
per hour

$151.50
per hour

4. c. Determine the number of WVD drums (if any) that should be purchased and the number of WVD drums and/or bike frames (if any) that should be manufactured. [Assume direct labor is a variable cost]

Quantity

Welding Time per Unit

Total Welding Time

Balance of Welding Time

Total hours available

2,200

WVD Drums—make

2,200/0.8 = 2,750

0.8

2.200

0

Bike frames produced

0

0.2

0

     0

WVD Drums—buy

3,250-2,750 = 500

4. d. What is the increase in net operating income that would result from this plan over current operations? (Do not round intermediate calculations.)

(a)

(b)

(a) × (b)

Quantity

Unit Contri-bution Margin

Total Contri-bution

WVD Drums—make

2,750

$122.82

$337,755

Bike frames produced

0

$30.30

0

WVD Drums—buy

500

$24.96

   12,480

Total contribution margin

350,235

Less: Contribution margin from present operations: 2,750 drums × $122.82 Contribution margin per drum

337,755

Increased contribution margin and net operating income

$ 12,480

Manufactured

Purchased WVD Drums

Manufactured WVD Drums

Bike Frames

Selling price

$176.00

$176.00

$77.00

Variable costs:

Direct materials

150.00

46.40

19.40

Variable manufacturing overhead

0.00

1.24

2.50

Variable selling and administrative

     1.04

1.04

2.30

Total variable cost

151.04

   48.68

24.20

Contribution margin

$ 24.96

$ 127.32

$52.80

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