16 Question 5 The Cook\'s Friend Company supplies exhaust fans and fire protecti
ID: 2580420 • Letter: 1
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16 Question 5 The Cook's Friend Company supplies exhaust fans and fire protection equipment to restaurants. The company is known for a fire screen that fits over the back of cooking grills and protects the wall. Current production is 20,000 units. The profit associated with one unit is as follows Price Variable cost of manufacturing Fixed manufacturing cost Fixed selling and administrative cost Profit $15.00 7.50 4.50 S 150 A supplier has offered to sell 20,000 screens to Cook's Friend at a price of S10 each. Required a. Explain whether the supplier's offer should be accepted. Show appropriate calculations. 6 b. Assume the existing capacity of the factory can be diverted from the production of screens to the production of a new product-, 20,000 units of grease filters. Explain whether grease filters should be produced. The following data for the grease filters is available Price Variable cost Fixed manufacturing cost Fixed selling and administrative cost Loss S10.00 6.80 4.50 S(2.80) 6 c. Suppose that the grease filters described in part b) can be treated in a special finishing process subsequent to its production. Doing so would make the filter meet military standards for use in military kitchens. The military will pay $13.80 per filter. The company expects that the finishing process will lead to some loss of output and that the yield will be 18,000 filters. If the filters are sold to the military, the following cost per unit will be incurred to finish the filters Variable cost of additional processing Additional fixed costs (manufacturing and selling) $3.50 $3.10 Determine whether the company should produce the filters for the military END OF EXAMINATIONNExplanation / Answer
4. Calculation of Relevant cost of manufacturing of product.
Relevant cost of manufacturing = Variable cost of manufacturing
= $7.50 per unit
Fixed manufacturing and selling costs are irrelevant costs as they are required to be incurred even if the company accept's suppliers proposal. And therefore, will not be considered for calculation of Relavant Cost of manufacturing.
Suuplier's offer price = $10 each
Since the cost of manufacturing is less than the supplier's offer, Cook's friend company should manufacture the product inhouse. and supplier's offer should be rejected.
2. Factory production diverted.
Calculation of Contribution margin under old vs proposed
Current
New / Proposed
Particulars
Current production
Fire Screen
Grease filters
Sales
15
15
10
Less: Variable Cost
Variable Manufacturing
7.50
10
6.80
Contribution Margin
7.50
5
3.2
Contribution margin on production of Fire Screen = $7.50 x 20,000 = 150,000
Contribution margin on production of grease filters with fire screen being purchased = (20,000 x $5) + (20,000 x $3.2) = $164,000
Since the total contribution margin is more with the production of grease filter, the grease filter should be produced with fire screen being purchased from outside supplier.
NOTE: Fixed costs are irrelevant for decision making since they are required to be incurred.
3. Calculation of overall profit if sold to military
Particulars
Amount
Sales (18,000 x 13.80)
248,400
Less: Variable Cost
Variable Manufacturing (20,000 x 6.80)
122,400
Additional Processing (20,000 x 3.50)
70,000
Contribution Margin
56,000
Additional Fixed Cost (18,000 x 3.10)
55,800
Net Profit
200
NOTE: In the given case, there is loss of output of 2000 units if further processed for military standards. This means that the company is incurring variable cost for 20,000 units of production only but the final output is available only of 18,000 units. Therefore, we have taken variable manufacturing and variable additional processing on the basis of 20,000 unit of production only.
Since the net profit available to the company is less than the overall profits in part(b), the company should not produce the product for military standards.
Current
New / Proposed
Particulars
Current production
Fire Screen
Grease filters
Sales
15
15
10
Less: Variable Cost
Variable Manufacturing
7.50
10
6.80
Contribution Margin
7.50
5
3.2
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