McNulty, Inc., produces desks
McNulty, Inc., produces desks and chairs. A new CFO has justbeen hired and announces a new policy that if a product cannot earna margin of at least 15 percent, it will be dropped. The margin iscomputed as product gross profit divided by reported productcost.
Manufacturing overhead for year 1 totaled $910,000. Overhead isallocated to products based on direct labor cost. Data for year 1show the following.
| Chairs | Desks | |||||
| Sales revenue | $ | 1,112,100 | $ | 2,570,400 | ||
| Direct materials | 603,000 | 990,000 | ||||
| Direct labor | 170,000 | 480,000 | ||||
Required:
a-1. Based on the CFO’s new policy, calculatethe profit margin for both chairs and desks.
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a-2. Which of the two products should bedropped, chairs or desks?
b. Regardless of your answer in requirement(a), the CFO decides at the beginning of year 2 to dropthe chair product. The company cost analyst estimates that overheadwithout the chair line will be $840,000. The revenue and costs fordesks are expected to be the same as last year. What is theestimated margin for desks in year 2?
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Answer:
a-1.
| (i) | Sales Revenue | $ 1,112,100 | $ 2,570,400 |
| Direct material | $ 603,000 | $ 990,000 | |
| Direct labor | $ 170,000 | $ 480,000 | |
| Overhead | $ 238,000 | $ 672,000 | |
| (ii) | Total cost | $ 1,011,000 | $ 2,142,000 |
| (iii) = (i) – (ii) | Gross Profit | $ 101,100 | $ 428,400 |
| (iii) / (ii) | Profit Margin | 10% | 20% |
Manufacturing overhead allocated to chairs = $910,000/($170,000+$480,000) × $170,000
= $238,000
Manufacturing overhead allocated to desks = $910,000/($170,000+$480,000) × $480,000
= $672,000
a-2.
As the gross margin ratio of chairs is less as compared todesks, it should be dropped.
b.
DESKS
| (i) | Sales Revenue | $ 2,570,400 |
| Direct material | $ 990,000 | |
| Direct labor | $ 480,000 | |
| Overhead | $ 8,40,000 | |
| (ii) | Total cost | $ 2,310,000 |
| (iii) = (i) – (ii) | Gross Profit | $ 260,400 |
| (iii) / (ii) | Profit Margin | 11.27% |
hope you got the answer, please comment for anyclarification
Thankyou and all the best for future
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