21 May WOULD YOU RECOMMEND THAT GIL LEASE THE NEW MACHINE?
PROBLEM I. (25 points) Ollivander is a wholesale distributor supplying a wide range of magical equipment and knick-knacks to large chain stores. The company has a Games and Sports (G&S) Department that is currently manufacturing fancy broomsticks used in the age-old game of Quidditch. Ollivander is able to produce and sell 8,000 broomsticks annually at $86 each, making full use of its direct-labor capacity at available work stations.The unit costs (at this level of production and sales) associated with Ollivander’sbroomsticks are as follows:
Materials $ 25.00
Direct labor ($15.00 per hour) 18.75
Manufacturing overhead 12.50
Selling and administrative costs 9.00
In the G&S Department, Ollivander uses direct-labor hours as the application base for manufacturing overhead. Included in the manufacturing overhead for the current year is $50,000 of factorywide, fixed manufacturing overhead. In addition, the selling and administration costs are fixed expenses allocated equally to each product.
1. What is the inventoriable cost per unit of each broomstick that Ollivander will record on its balance sheet?
2. Determine Ollivander’s margin of safety at its current sales level.
3. Production manager Gil Grindenwald recently received a proposal from Dolly Umbridge, a representative from an outside vendor of a new broomstick-making machine that has just been recently developed. The machine can be leased for $180,000 per year, and will significantly reduce the labor needed to manufacture each broomstick. After looking through the production costs of Ollivander, Umbridge estimates that labor and variable overhead can be reduced by 80 percent if the machine were used to manufacture broomsticks. No other costs are expected to change. Would you recommend that Gil lease the new machine? Support your answer with both quantitative (i.e., compute the net benefit or cost of leasing the machine) and qualitative considerations.
Refer to the original data, and assume from this point on that Grindenwald declines Umbridge’s offer and decides to stick to Ollivander’s original manufacturing process. Because Ollivander’s sales manager believes the firm could sell a maximum of 9,000 broomsticks if it had sufficient manufacturing capacity, the company has looked into the possibility of purchasing the broomsticks for distribution. GregorovitchGoods, a steady supplier of quality products, would be able to provide up to 9,000 broomsticks per yearat a cost of $60 per broomstick. Gregorovitch will only accept an all-or-nothing contract (i.e., they will agree to provide Ollivander 9,000 units or none at all). The manufacturing overhead can be reduced by 40% if the facilities in the G&S Department were no longer used to manufacture broomsticks; selling and administrative costs will, on the other hand, be unaffected.Gregorovitch will deliver the broomsticks to Ollivander’s facility.
4. What is the maximum unit price Ollivander would be willing to pay Gregorovitch for each broomstick, again assuming that Gregorovitch will only accept an all-or-nothing contract?
5. If, on the other hand, Gregorovitch will be willing to produce any number of broomsticks for Ollivander, how many broomsticks should Ollivander produce and how many should it purchase to maximize profit? Determine total profit based on your recommendation.
In a company meeting, Grindelwaldproposed to add a new product line. He has come to the conclusion that the company could make better use of its G&S Department by manufacturing molded magic wands, which has been increasing in popularity. Grindelwald has a market study that indicates an expanding market for wands and a need for additional suppliers. Grindelwald believes that Ollivander could easily sell 16,000 wands annually at a price of $45.00 per wand. At this expected volume, he estimates the unit costs for producing each wand in the G&S Department with the same facilities used for producing and distributing broomsticks below.
Materials $17.00
Direct labor ($15.00 per hour) 7.50
Manufacturing overhead 5.00
Selling and administrative cost 4.50
6. How many wands and broomsticks should be manufactured? How many broomsticks should be purchased? Support your answer and calculate the net incremental benefit of your recommendation over the status quo of selling 8,000 broomsticks. (Assume in this case that Gregorovitch agrees to manufacture however many broomsticks Ollivander would be willing to purchase.)
7. Luna Lovegood, a cost accountant, has prepared a detailed analysis of the selling and administrative (S&A) costs, and has found that these costs are not necessarily all fixed. Using monthly data on broomsticks, she ran a regression of S&A costs on number of units sold. Results are shown below.
How will this new information change your answers to (8) above?
8. What qualitative factors should the management of Ollivander consider in the decisions to use current facilities to produce wands?
PROBLEM II. (25 points) Robert (Bertie)Botts was worried. His company, Botts Bottling, showed declining profits over the past several years despite an increase in revenues. With profits declining and revenues increasing, Bottssuspected there must be a problem with costs.
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