Cane Company manufactures two products called Alpha and Beta that sell for $215 and $160, respectively. Each product uses only one type of raw material that costs $7 per pound. The company has the capacity to annually produce 125,000 units of each product. Its average cost per unit for each product at this level of activity are given below:
Alpha Beta
Direct materials $ 42 $ 21
Direct labor 35 28
Variable manufacturing overhead 23 21
Traceable fixed manufacturing overhead 31 34
Variable selling expenses 28 24
Common fixed expenses 31 26
Total cost per unit $ 190 $ 154
The company considers its traceable fixed manufacturing overhead to be avoidable, whereas its common fixed expenses are unavoidable and have been allocated to products based on sales dollars.
7. Assume that Cane normally produces and sells 56,000 Betas per year. What is the financial advantage (disadvantage) of discontinuing the Beta product line?
First, we need to calculate the total contribution margin that Cane generates from selling 56,000 Betas per year:
Selling price of Beta = $160
Total variable costs per unit for Beta = $21 + $28 + $21 + $24 = $94
Contribution margin per unit for Beta = Selling price - Total variable costs = $160 - $94 = $66
Total contribution margin from selling 56,000 Betas = 56,000 units x $66 = $3,696,000
Next, we need to consider the fixed costs that are directly attributable to the Beta product line:
Traceable fixed manufacturing overhead per unit for Beta = $34
Total traceable fixed manufacturing overhead for 56,000 Betas = 56,000 units x $34 = $1,904,000
Therefore, the financial advantage (disadvantage) of discontinuing the Beta product line would be:
Total contribution margin from selling Betas - Total traceable fixed manufacturing overhead for Betas
$3,696,000 - $1,904,000 = $1,792,000
Discontinuing the Beta product line would result in a financial advantage of $1,792,000 for Cane Company.