Andretti Company has a single product called Dak. The company normally produces
ID: 2385817 • Letter: A
Question
Andretti Company has a single product called Dak. The company normally produces and sells 60,000 Daks each year at a selling price of $32 per unit. The company’s unit costs at this level of activity are given below:Direct materials $10.00
Direct labor $4.50
Variable manufacturing overhead $2.30
Fixed manufacturing overhead $5.00 ($300,000 total)
Variable selling expenses $1.20
Fixed selling expenses $3.50 ($210,000 total)
Total cost per unit $26.50
Assume that Andretti has sufficient capacity to produce 90,000 Daks each year without any increase in fixed manufacturing overhead costs. The company could increase it’s sales by 25% above the present 60,000 units each year if it were willing to increase the fixed selling expenses by $80,000. Would the increase in fixed expenses be justified? Explain.
(Can someone please help me with this and explain if you can in a step by step manner what the answer is and how I go about getting the answer, each step and everything, thank you very much.)
Explanation / Answer
In order to compute this item, I would compare the two different profit projections Before the Changes are made, the company can expect a profit of $32-$26.5 or $5.5 per item, for a total profit of 5.5(60000) = $330,000 Total profit. After the changes are made, the only difference is an increase in fixed selling expenses. Using some algebra, we can find the new projected profit as follows: Profit = Revenue - Cost Revenue = $32X Total Variable costs = 10+4.5+2.3+1.2 = $18X Total fixed cost = 300000+210000+80000 = 590000 Total Cost = Total Variable cost + Total Fixed Cost = 18X + $590,000 Using these formulas, we can find the expected profit Profit = 32X -(18x+590000) = 32x - 18x - 590,000 (by distribution) = 14x - 590,000 (simplification) now, we need to find the number of items produced per year, which we are told can be increased 25%, so we have 60000(1.25) = 75000 total units, which is below the threshold of 90,000 so there are no issues related to capacity. Plug this into the the equation and we have: profit = 14(75,000) - 590,000 = 1,050,000 - 590,000 = 460,000 So after the company increases it's sales by increaseing the fixed selling expenses, we have a new projected profit of $460,000, which is more than the old profit of $330,000, Therefore the company should increase selling expenses if it can increase its sales by 25%. Please let me know if you have any questions.