Homework SourseVernon Manufacturing Co produces and sells specialized equip
Vernon Manufacturing Co. produces and sells specialized equipment used in the petroleum industry. The company is organized into three separate operating branches: Division A, which manufactures and sells heavy equipment; Division B, which manufactures and sells hand tools; and Division C, which makes and sells electric motors. Each division is housed in a separate manufacturing facility. Company headquarters is located in a separate building. In recent years, Division B has been operating at a net loss and is expected to continue to do so. Income statements for the three divisions for 2017 follow.
Required
a-1. Based on the preceding information, recommend whether to eliminate Division B.
a-2. Prepare companywide income statements before and after eliminating Division B.
b. During 2017, Division B produced and sold 25,000 units of hand tools. Calculate the contribution to profit if sales and production increase to 36,000 units in 2018?
c. Suppose that Solomon could sublease Division B\'s manufacturing facility for $415,000. Assuming that Division B currently has a production and sales volume of 36,000 units, determine whether Solomon should accept the opportunity to sublease the facility or continue production at Division B.
| Division A | Division B | Division C | |||||||||
| Sales | $ | 4,300,000 | $ | 1,250,000 | $ | 4,400,000 | |||||
| Less: Cost of goods sold | |||||||||||
| Unit-level manufacturing costs | (2,700,000 | ) | (900,000 | ) | (2,980,000 | ) | |||||
| Rent on manufacturing facility | (510,000 | ) | (290,000 | ) | (300,000 | ) | |||||
| Gross margin | 1,090,000 | 60,000 | 1,120,000 | ||||||||
| Less: Operating expenses | |||||||||||
| Unit-level selling and admin. expenses | (196,000 | ) | (64,125 | ) | (246,000 | ) | |||||
| Division-level fixed selling and admin. expenses | (350,000 | ) | (82,000 | ) | (327,000 | ) | |||||
| Headquarters facility-level costs | (170,000 | ) | (170,000 | ) | (170,000 | ) | |||||
| Net income (loss) | $ | 374,000 | $ | (256,125 | ) | $ | 377,000 | ||||
Solution
a-1. It is recommended to eliminate Division B.
This is because the division is generating a loss of $86,125 which will affect the overall profit of the company.
a-2.
b. $154,000
Working:
Contribution margin for 25,000 units = $350,000
Contribution margin per unit =$14.00
Contribution margin for 36,000 units =$504,000
Additional contribution to profit with 36,000 units = $154,000 ($504,000 - $350,000)
c.
As the sublease is giving a differential net income of $337,125 it is advised to sublease .
Working:
| Statement of profitability with Diivision B | ||||
| Dvision A | Dvision B | Dvision C | Total | |
| Sales | 4300000 | 1250000 | 4400000 | 9950000 |
| Cost of goods sold | 2700000 | 900000 | 2980000 | 6580000 |
| Contribution margin | 1600000 | 350000 | 1420000 | 3370000 |
| Unit level costs: | ||||
| Rent on manufacturing facility | 510000 | 290000 | 300000 | 1100000 |
| Selling and administration expenses | 196000 | 64125 | 246000 | 506125 |
| Total unit level costs | 706000 | 354125 | 546000 | 1606125 |
| Unit level profit | 894000 | -4125 | 874000 | 1763875 |
| Divisional level selling and administration costs | 350000 | 82000 | 327000 | 759000 |
| Dividional profit | 544000 | -86125 | 547000 | 1004875 |
| Headquarters facility level costs | 510000 | |||
| Net income (loss) | 494875 |
