Axelrod Company makes three types of t-shirts: Calm, Windy, and Gale. Mr. Brown,

Question

Axelrod Company makes three types of t-shirts: Calm, Windy, and Gale. Mr. Brown, the general manager of the Company is disappointed with low sales and low profitability of Gale and is considering dropping the product. He believes that such a move will allow him to focus more attention to other profitable lines. He discusses this with you and asks for your opinion. You gather the following information about last year’s performance of the three products.

                                                                        Calm                                           Windy                     Gale

Units Sold                                                 25,000                                      18,750                    3,750

Selling Price/unit                                $ 30                                           $ 32                         $ 39

Production Cost:

Direct Materials/unit                       $ 10                                           $ 10                         $ 15

Direct Labor/unit                                $ 14                                           $ 14                         $ 21      

There is no variable overhead. Annual total fixed overhead amounts to $ 168,000 and will remain the same whether the product line is dropped or retained. The fixed overhead rate established by the company was $ 3.60 per unit. . The analysis provided to Mr. Brown on the basis of which he was considering to drop Gale from the line of products sold was as follows:

:

`                                                                       Calm                                           Windy                     Gale

Selling Price/unit                                $ 30.00                                                      $ 32.00                                    $ 39.00

Direct Materials/unit                  ($ 10.00)              ($ 10.00)            ($ 15.00)

Direct Labor/unit                           ($ 14.00)              ($ 14.00)           ($ 21.00)   

Fixed Overhead/unit                  ($    3.60)                 ($    3.60)            ($    3.60)

                                                            --------------------------------------------------------------------------

Operating profit per unit                $ 2.40                                       $ 4.40                ($    0.60)

                                                                        =========================================

Given the foregoing information, what advice will you give to Mr. Brown? Explain the conceptual reasoning behind your advice. Also provide numerical analysis to support your explanation.

Explanation / Answer

Axelord company The fixed overhead will remain the same whether Gale is dropped or kept. So for decision amking we are ignoring fixed overheads Toatl Contribution margin if Gale is continued Details Calm Windy Gale Total Units sold              25,000              18,750            3,750 Selling price/unit                      30                      32                  39 Less Variable units costs Direct Materials                        10                      10                  15 Direct Labor                      14                      14                  21 Total Variable cost/unit                      24                      24                  36 Unit Contribution Margin                         6                        8                     3 Total Contribution              150,000           150,000          11,250        311,250 Toatl Contribution margin if Gale is dropped Details Calm Windy Total Units sold              25,000              18,750 Selling price/unit                      30                      32 Less Variable units costs Direct Materials                        10                      10 Direct Labor                      14                      14 Total Variable cost/unit                      24                      24 Unit Contribution Margin                         6                        8 Total Contribution              150,000           150,000        300,000 So The Total Contribution margin is dropped by   $11,250 if Gale is dropped. As the fixed overhead do not change, the net   operating income also drops by $11,250 Therefore , Gale should not be   dropped as it has positive contribution margin

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