A lumber retailer is evaluating five possible locations to build a new store. As
ID: 458522 • Letter: A
Question
A lumber retailer is evaluating five possible locations to build a new store. As the retailer carries different types of lumber, a selling unit is understood as a composite unit of lumber. In addition the selling price of one unit is an average price, which is dependent on the lumber composition. The accounting department provides some estimates as in the table. These estimates are based on multiple location characteristics including transportation system, property cost, utilities cost, labor cost, population, income distribution, construction demand, competitors, etc. For simplicity, assume that the chain's manager does not consider other costs or revenues.
Data
Location 1
Location 2
Location 3
Location 4
Location 5
Fixed costs ($)
75,000
98,000
82,000
105,000
85,000
Merchandise cost/unit ($)
4.41
4.65
5.05
4.90
4.60
Direct labor cost/unit ($)
9.45
8.83
9.12
9.78
8.91
Overhead/unit ($)
1.53
1.45
1.59
1.57
1.46
Transportation cost/unit ($)
0.32
0.46
0.39
0.42
0.37
Sales volume (units)
450,000
400,000
500,000
350,000
570,000
Selling price/unit ($)
19.00
19.50
18.50
21.00
17.60
(a)[2] Which location has the lowest total cost estimate?
(b)[2] Which location has the highest sales revenue estimate?
(c)[2] Which location should the retailer choose to build a new store?
Data
Location 1
Location 2
Location 3
Location 4
Location 5
Fixed costs ($)
75,000
98,000
82,000
105,000
85,000
Merchandise cost/unit ($)
4.41
4.65
5.05
4.90
4.60
Direct labor cost/unit ($)
9.45
8.83
9.12
9.78
8.91
Overhead/unit ($)
1.53
1.45
1.59
1.57
1.46
Transportation cost/unit ($)
0.32
0.46
0.39
0.42
0.37
Sales volume (units)
450,000
400,000
500,000
350,000
570,000
Selling price/unit ($)
19.00
19.50
18.50
21.00
17.60
Explanation / Answer
Data
Location 1
Location 2
Location 3
Location 4
Location 5
Fixed costs ($)
75,000
98,000
82,000
105,000
85,000
Merchandise cost/unit ($)
4.41
4.65
5.05
4.9
4.6
Direct labor cost/unit ($)
9.45
8.83
9.12
9.78
8.91
Overhead/unit ($)
1.53
1.45
1.59
1.57
1.46
Transportation cost/unit ($)
0.32
0.46
0.39
0.42
0.37
Sales volume (units)
450,000
400,000
500,000
350,000
570,000
Selling price/unit ($)
19
19.5
18.5
21
17.6
Total Variable Cost ($)
7,069,500
6,156,000
8,075,000
5,834,500
8,743,800
Total Cost ($)
7,144,500
6,254,000
8,157,000
5,939,500
8,828,800
Sales Revenue ($)
8,550,000
7,800,000
9,250,000
7,350,000
10,032,000
Profit
1,405,500
1,546,000
1,093,000
1,410,500
1,203,200
Step 1: Calculate Variable cost for each Location:
Calculation for Location 1:
Total variable cost = Sales volume x variable cost per unit
TVC = 450000 x ($4.41 + $9.45 + $1.53 + $0.32) = $7,069,500
Step 2: Calculate Total Cost for each Location
Calculation for Location 1:
Total Cost = Fixed Cost + Total Variable Cost
TC = $75,000 + $7,069,500 = $7,144,500
Step 3: Calculate Sales Revenue for each location
Calculation for Location 1:
Sales Revenue = Sale Volume x Sales price per unit = 4500000 x $19 = $8,550,000
Step 4: Calculate Profit for each location
Profit = Sales Revenue – Total Cost = $8,550,000 - $7,144,500 = $1,405,500
Similarly calculation is done and is summarized in above table.
(a)[2] Which location has the lowest total cost estimate?
Lowest total cost estimate is $5,939,500 for location 4
(b)[2] Which location has the highest sales revenue estimate?
highest sales revenue estimate is $10,032,000 for location 5
(c)[2] Which location should the retailer choose to build a new store?
Location with highest profit estimate is best option for locating new store. Highest profit estimate is 1,546,000 for location 2, thus, location 2 is best option for maximizing profit.
Data
Location 1
Location 2
Location 3
Location 4
Location 5
Fixed costs ($)
75,000
98,000
82,000
105,000
85,000
Merchandise cost/unit ($)
4.41
4.65
5.05
4.9
4.6
Direct labor cost/unit ($)
9.45
8.83
9.12
9.78
8.91
Overhead/unit ($)
1.53
1.45
1.59
1.57
1.46
Transportation cost/unit ($)
0.32
0.46
0.39
0.42
0.37
Sales volume (units)
450,000
400,000
500,000
350,000
570,000
Selling price/unit ($)
19
19.5
18.5
21
17.6
Total Variable Cost ($)
7,069,500
6,156,000
8,075,000
5,834,500
8,743,800
Total Cost ($)
7,144,500
6,254,000
8,157,000
5,939,500
8,828,800
Sales Revenue ($)
8,550,000
7,800,000
9,250,000
7,350,000
10,032,000
Profit
1,405,500
1,546,000
1,093,000
1,410,500
1,203,200
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