Jensen PVC, Inc., produces polyvinyl chloride (PVC) irrigation pipes. In 2017, t

Question

Jensen PVC, Inc., produces polyvinyl chloride (PVC) irrigation pipes. In 2017, the cost of producing a foot of pipe was $0.30, and the selling price was $0.39 per foot. In 2018, production costs increased to $0.40 per foot, although the selling price remained at $0.39. 2017 2018 Selling price $0.39 $0.39 Production cost 0.30 0.40 The increase in cost was obvious. Material and labor had remained fairly constant per foot of pipe, but overhead costs, which were $0.15 per foot in 2017, had increased to $0.25 in 2018. The problem was that most overhead costs were fixed, but output had decreased due to weak crop prices and a corresponding decrease in spending on irrigation projects. Bob Elger, CFO of Jensen, reviewed the data generated by the company’s process costing s ystem. In 2017, overhead costs in all of the company’s departments (mixing, extrusion, cutting, and packing) were $1,500,000, and pipe production was 10,000,000 feet. In 2018, overhead costs were still approximately $1,500,000, but pipe production decreased to 6,000,000 feet. At a recent meeting of the senior management team, Bob noted: “The problem is that we’re not making use of capacity. We could easily produce 15,000,000 feet of pipe given our state-ofthe- art equipment, but we’re operating at less than 50% of capacity.” REQUIRED Bob estimates that to sell 15,000,000 feet of pipe in the current market, the company would have to lower its price to $0.35 per foot, which is even lower than its current cost per foot of $0.40. Would decreasing the price be a good decision?

Explanation / Answer

Decreasing thee price is a good decision,since it results in major positive operating profit. More importantly, the company using it's full capacity and functioning optimally as well.

2017 2018 Estimate Selling price 0.39 0.39 0.35 production costs 0.3 0.4 Variable costs                       0.15                       0.15 0.15 Overhead costs 0.15 0.25 0.29 Capacity-feet         1,50,00,000         1,50,00,000         1,50,00,000 Pipe production - feet         1,00,00,000            60,00,000         1,50,00,000 Sales            39,00,000            23,40,000            52,50,000 Production costs            30,00,000            24,00,000            37,50,000 Variable            15,00,000               9,00,000            22,50,000 Overhead costs            15,00,000            15,00,000            15,00,000 Operating profit               9,00,000                 -60,000            15,00,000

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