Philadephia Metals, a supplier to the automotive industry, had seen its operatin
ID: 2417720 • Letter: P
Question
Philadephia Metals, a supplier to the automotive industry, had seen its operating margins shrink below 20% as its customers put continued pressure on pricing. Philadelphia produced four products in its plant and decided to eliminate products that no longer provided positive gross margins. The total plant overhead cost is $122,000 per year. Details on the four products are provided here: A B C D Production volume (units) 10,000 8,000 6,000 4,000 Selling price $15.00 $18.00 $20.00 $22.00 Materials per unit $4.00 $5.00 $6.00 $7.00 Direct labor hours per unit 0.24 0.18 0.12 0.08 Total direct labor hours 2,400 1,440 720 320 Philadelphia calculates a plantwide overhead rate by dividing total direct labor hours into total overhead cost. Assume that plant overhead is a fixed cost during the year, but that direct labor is a variable cost. The direct labor rate is $30 per hour. REQUIRED: 1. Calculate the plantwide overhead rate and use this rate to assign overhead costs to products. Calculate the gross margin for each product and calculate the total gross margin. 2. If any product is unprofitable in 1) drop this product from the mix. Recalculate the cost driver rate based on the new total direct labor hours remaining in the plant and use this rate to assign overhead costs to the remaining three products. Calculate the gross margin for each product and calculate the total gross margin. 3. Drop any product that is unprofitable with the revised cost assignment. Repeat the process, eliminating any unprofitable products at each stage. 4. What is happening at Philadelphia Metals and why? How could this situation be avoided? Philadephia Metals, a supplier to the automotive industry, had seen its operating margins shrink below 20% as its customers put continued pressure on pricing. Philadelphia produced four products in its plant and decided to eliminate products that no longer provided positive gross margins. The total plant overhead cost is $122,000 per year. Details on the four products are provided here: A B C D Production volume (units) 10,000 8,000 6,000 4,000 Selling price $15.00 $18.00 $20.00 $22.00 Materials per unit $4.00 $5.00 $6.00 $7.00 Direct labor hours per unit 0.24 0.18 0.12 0.08 Total direct labor hours 2,400 1,440 720 320 Philadelphia calculates a plantwide overhead rate by dividing total direct labor hours into total overhead cost. Assume that plant overhead is a fixed cost during the year, but that direct labor is a variable cost. The direct labor rate is $30 per hour. REQUIRED: 1. Calculate the plantwide overhead rate and use this rate to assign overhead costs to products. Calculate the gross margin for each product and calculate the total gross margin. 2. If any product is unprofitable in 1) drop this product from the mix. Recalculate the cost driver rate based on the new total direct labor hours remaining in the plant and use this rate to assign overhead costs to the remaining three products. Calculate the gross margin for each product and calculate the total gross margin. 3. Drop any product that is unprofitable with the revised cost assignment. Repeat the process, eliminating any unprofitable products at each stage. 4. What is happening at Philadelphia Metals and why? How could this situation be avoided?Explanation / Answer
Solution: 1
Plantwide overhead rate = total overhead cost/ total direct labour hours
= 122000/4880 = $25 per DLH
All products are profitable and therefore, none of the product will be dropped.
By using the plantwide overhead rate , Philadelphia Metals is earning higher profits because direct labor rate per hour is reduced by $ 5.
A B C D Total units produced 10000 8000 6000 4000 Selling price per unit $ 15.00 $ 18.00 $ 20.00 $ 22.00 Sales $ 1,50,000.00 $ 1,44,000.00 $ 1,20,000.00 $ 88,000.00 Material per unit $ 4.00 $ 5.00 $ 6.00 $ 7.00 total material cost $ 40,000.00 $ 40,000.00 $ 36,000.00 $ 28,000.00 Direct labor hours per unit 0.24 0.18 0.12 0.08 Total direct labour hours 2400 1440 720 320 Plantwide overhead rate $ 25.00 $ 25.00 $ 25.00 $ 25.00 overhead cost $ 60,000.00 $ 36,000.00 $ 18,000.00 $ 8,000.00 cost of goods sold $ 1,00,000.00 $ 76,000.00 $ 54,000.00 $ 36,000.00 Gross profit $ 50,000.00 $ 68,000.00 $ 66,000.00 $ 52,000.00 Gross profit margin 33.33333333 47.22222222 55 59.0909091 Total gross profit $ 2,36,000.00 total sales $ 5,02,000.00 total gross profit margin 47.01195219