Birch Company normally produces and sells 47000 units of RG6

Birch Company normally produces and sells 47,000 units of RG-6 each month. RG-6 is a small electrical relay used as a component part in the automotive industry. The selling price is $25 per unit, variable costs are $14 per unit, fxed manufacturing overhead costs total $190,000 per month, and fixed seling costs total $44,000 per month. Employment-contract strikes in the companies that purchase the bulk of the RG-6 units have caused Birch Company\'s sales to temporarily drop to only 8,000 units per month. Birch Company estimates that the strikes wil last for two months after which time sales of RG-6 should return to normal. Due to the current low level of sales, Birch Company is thinking about closing down its own plant during the strike, which would reduce its fixed manufacturing overhead costs by $40,000 per month and its fixed selling costs by 12%. Start-up costs at the end of the shutdown period would total $14,000. Because Birch Company uses Lean Production methods, no inventories are on hand. Required: 1a. Assuming that the strikes continue for two months, what is the impact on income by closing the plant? n two months 1b. Would you recommend that Birch Company close its own plant? O No Yes 2. At what level of sales (in units) for the two-month period should Birch Company be indifferent between closing the plant or keeping it open? (Hint This is a type of break-even analysis, except that the fixed cost portion of your break-even computation should include only those fixed costs that are relevant i.e., avoidable] over the two-month period.) (Round your final answer to the nearest whole number.)

Solution

1a) Impact on net income of closing the plant (Amount in $)

Therefore the net income will decrease by $99,440 in two months

1b) No, the Birch company should not close its plant as there is a decrease in net income of $99,440 in two months.

2) Total Avoidable Fixed cost for two months = $80,000+$10,560+$14,000 = $104,560

Contribution per unit = $25-$14 = $11 per unit

Break even sales (in units) = Total Avoidable Fixed Cost/Contribution per unit

= $104,560/$11 per unit = 9,505 units

Loss of contribution on sale of 8,000 units for 2 months [8,000 units*2*($25-$14)]	(176,000)
Reduction in fixed manufacturing overhead costs ($40,000 per month*2 months)	80,000
Reduction in Fixed selling costs [($44,000*2 months)*12%]	10,560
Start up cost at the end of shut down period	(14,000)
Net decrease in net income by closing the plant	(99,440)