8?28 Special order pricing, outsourcing, eliminating operations (LO 2, 3, 5) Whirlwind Industries is a multiproduct company with several manufacturing plants. The Brownwood Plant manufactures and distributes two carpet cleaning products, Household and Commercial, under the Karpet Kleen label. The forecasted operating results for the first six months of 2011 are presented in the following statement. Karpet Kleen?Brownwood Plant Forecasted Result of Operations For the six months ended June 30, 2012 (in thousands) Household Commercial Total Units 100 100 200 Sales revenue $2,000 $3,000 $5,000 Cost of goods sold 1,600 1,900 3,500 Gross profit $ 400 $1,100 $1,500 Selling & administrative expenses Variable $ 400 $ 700 $1,100 Fixed1 240 360 600 Total selling & administrative expenses $ 640 $1,060 $1,700 Income (loss) before taxes $(240) $ ?40 $(200) The product costs per unit are as follows: Household Commercial Direct materials $ 7 $ 8 Direct labor 4 4 Variable manufacturing overhead 1 2 Fixed manufacturing overhead 4 5 Total product cost $16 $19 Each product is manufactured on a separate production line. Normal manufacturing capacity is 200,000 cases of each product per year. However, the plant is capable of producing 250,000 cases of the Household product and 350,000 cases of the Commercial product per year. Capacity levels assume an even flow of production throughout the year, so that the maximum capacity for the second half of the year is 125,000 cases of Household and 175,000 of Commercial cases. The following schedule reflects the top management's consensus regarding the price/volume alternatives for Karpet Kleen products in the second six months of 2012. These are essentially the same alternatives management faced during the first six months of the year. Household Commercial Alternative Prices (per Unit) Unit Sales Volume Alternative Prices (per Unit) Unit Sales Volume $18 120,000 $25 175,000 20 100,000 27 140,000 21 90,000 30 100,000 22 80,000 32 55,000 23 50,000 35 35,000 Top management believes the company's loss for the first six months of the year reflects a tight profit margin caused by intense competition. Management also believes that many companies will be forced out of this market by the next year and that long?term profits should improve. Other Information ? Fixed manufacturing overhead per unit is based on normal manufacturing capacity. ? Depreciation constitutes 50% of the fixed manufacturing overhead cost of each product and is unavoidable. ? The remaining fixed manufacturing overhead expenses arise from factory personnel assigned to particular products. ? Variable selling and administrative expenses are $4 and $7 per unit, respectively, for the Household and Commercial products. Required a. What unit selling price should Whirlwind Industries assign to each of the Karpet Kleen products to maximize net income for the second six months of 2012? Support your answers with calculations. b. Based on the unit prices you have chosen in part ( a), what is the company's expected income before taxes for the second six months of the year? Support your answer with an income statement prepared in the contribution margin format. Show the contribution margin and the segment margin for each product. c. Based on the unit prices you have chosen in part (a), should the Household product be dropped for the last six months of the year? Support your answer. d. Management has received a special order from CleanMe Corporation for 80,000 cases o f the Commercial product at a price of $20 per case. No sales commission would need to be paid (sales commissions are normally $3.20 per case). Should they accept this order? Support your answer with calculations and comment on the qualitative considerations. e. MakeIt Corporation has offered to make Karpet Kleen's Household product for $13 per case. Karpet Kleen would still sell the product to its customers. The company could use its idle resources to make a new Extra Strength product. Management believes the company could sell 45,000 cases of this new product for $40 per case; variable selling and administrative expenses would be $7 per case. They expect that introducing this product will reduce current unit sales of the Commercial product by 10%. What is the maximum variable cost per unit of the Extra Strength product that would make this proposition worthwhile? Support your answer with calculations and comment on the qualitative considerations. f. Without considering your answers to previous questions, assume that the optimum price/volume alternatives for the last six months of the year were a selling price of $23 and a volume of 50,000 cases for the Household product, and a selling price of $35 and volume of 35,000 cases for the Commercial product. What was the company's expected income before taxes? Prepare an income statement in contribution margin format. g. Without considering your answers to previous questions, assume that the optimum price/volume alternatives for the last six months of the year were a selling price of $23 and a volume of 50,000 cases for the Household product, and a selling price of $35 and volume of 35,000 cases for the Commercial product. Should Whirlwind Industries consider closing down its operations until 2012 to minimize its losses? Support your answer with appropriate calculations and discuss the qualitative factors that should be considered.
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