Question

Stuart Modems has excess production capacity and is considering the possibility of making and selling paging equipment. The following estimates are based on a production and sales volume of 2,600 pagers.

Unit-level manufacturing costs are expected to be $36. Sales commissions will be established at $2.60 per unit. The current facility-level costs, including depreciation on manufacturing equipment ($76,000), rent on the manufacturing facility ($66,000), depreciation on the administrative equipment ($16,800), and other fixed administrative expenses ($79,950), will not be affected by the production of the pagers. The chief accountant has decided to allocate the facility-level costs to the existing product (modems) and to the new product (pagers) on the basis of the number of units of product made (i.e., 6,600 modems and 2,600 pagers).

a. Determine the per-unit cost of making and selling 2,600 pagers. (Do not round intermediate calculations. Round your answer to 3 decimal places.)
b. Assuming the pagers could be sold at a price of $50 each, should Stuart make the pagers?

Answer 1

Solution a:

Total fixed costs = $76,000 + $66,000 + $16.800 + $79,950 = $238,750

Fixed cost per unit = $238,750 / (6600+2600) = $25.951 per unit

Per unit cost of making and selling 2600 pagers = unit level manufacturing cost + Sales commission + Facility level cost per unit

= $36 + $2.60 + $25.951 = $64.551 per unit

Solution b:

Relevant cost per unit of pagers = $36 + $2.60 = $38.60 per pager

As facility level cost are irrelevant as same are unavoidable.

As selling price is higher than relevant cost therefore Stuart should make the pagers.