Question

Black Ltd makes these products and is reviewing the profitability of its product line. You are given the following budgeted data about the firm for the coming year.

Product Sales (i.e units)
A
100,000
B
120,000
C
80,000


(Sh.)
(Sh.)
(Sh.)

Revenue
1,500,000
1,440,000
880,000

Costs:




Material
500,000
480,000
240,000

Labour
400,000
320,000
160,000

Overhead
650,000
600,000
360,000


1,550,000
1,400,000
760,000

Profit
(50,000)
40,000
120,000


The company is concerned about the loss on product A. It is considering ceasing occasion product of it and switching the spare capacity of 100 000 units to Product C.
You are told:
All products are sold.
25% of the labour cost for each product is fixed in nature.
Fixed administration overheads of Sh.900,600 in total have apportioned to each product on the basis of units sold and included in the overhead costs above. All other overhead costs are variable in nature
Ceasing production of product, A would eliminate the fixed labour charge associated with it and one-sixth of the fixed administration overhead apportioned in product A.
Increasing the production of product C by 100,000 units would mean that the fixed labour costs associated with product C would double the variable labour cost would rise by 20% and its selling price would have to be decreased by Sh.1.50 in order achieve the increased sales.
Required.
Prepare a marginal cost statement for a unit of each product on the basis of:
The original budget.
If product A is deleted.
Prepare a statement showing the total contra…… and profit for each product group on the basis of:
The original budget.
If product A is deleted.
Using your results from (a) and (b) advise whether product A should be deleted from the product range giving reasons for your decision.

Answer 1

(a) Marginal Cost Statement:

Product A:

Revenue: Sh.15.00

Material: Sh.5.00

Labour: (25% of Sh.4.00) Sh.1.00

Variable Overhead: (50% of Sh.6.50) Sh.3.25

Total Variable Cost: Sh.9.25

Contribution Margin: Sh.5.75

Product B:

Revenue: Sh.12.00

Material: Sh.4.00

Labour: (25% of Sh.3.20) Sh.0.80

Variable Overhead: (50% of Sh.6.00) Sh.3.00

Total Variable Cost: Sh.7.80

Contribution Margin: Sh.4.20

Product C:

Revenue: Sh.11.00

Material: Sh.3.00

Labour: (25% of Sh.2.00) Sh.0.50

Variable Overhead: (50% of Sh.3.60) Sh.1.80

Total Variable Cost: Sh.5.30

Contribution Margin: Sh.5.70

(b) Total Contribution and Profit Statement:

Original Budget:

Product A:

Contribution: (Sh.5.75 x 100,000 units) = Sh.575,000

Fixed Overhead: (1/6 x Sh.150,100) = Sh.25,017

Profit: (Sh.575,000 - Sh.500,000 - Sh.400,000 - Sh.625,000 - Sh.25,017) = (Sh.950,017)

Product B:

Contribution: (Sh.4.20 x 120,000 units) = Sh.504,000

Fixed Overhead: (1/3 x Sh.900,600) = Sh.300,200

Profit: (Sh.504,000 - Sh.480,000 - Sh.384,000 - Sh.600,000 - Sh.300,200) = (Sh.260,200)

Product C:

Contribution: (Sh.5.70 x 80,000 units) = Sh.456,000

Fixed Overhead: (1/4 x Sh.900,600) = Sh.225,150

Profit: (Sh.456,000 - Sh.240,000 - Sh.200,000 - Sh.360,000 - Sh.225,150) = (Sh.569,150)

If Product A is deleted:

Product B:

Contribution: (Sh.4.20 x 120,000 units) = Sh.504,000

Fixed Overhead: (1/2 x Sh.900,600) = Sh.450,300

Profit: (Sh.504,000 - Sh.480,000 - Sh.384,000 - Sh.600,000 - Sh.450,300) = (Sh.510,300)

Product C:

Contribution: (Sh.5.70 x 180,000 units) = Sh.1,026,000

Fixed Overhead: (1/3 x Sh.900,600) = Sh.300,200

Profit: (Sh.1,026,000 - Sh.360,000 - Sh.320,000 - Sh.720,000 - Sh.300,200) = (Sh.325,800)

Based on the above calculations, it is advisable to delete Product A from the product range. This is because the company is making a loss of Sh.950,017 on Product A, which is greater than the total profit made on the other two products (i.e., Sh.829,350). Moreover, increasing

Step-by-step explanation: