Problem 5

Syner Electric Products, Inc. has automated much of its production of specialized switches and
transformers. Robots are utilized in production; so much of the labor time is spent in monitoring and
testing for quality. Labor cost is to a large extent on a salary basis and is now included as indirect labor
cost.

There is still some direct labor cost. However, the fixed overhead cost (that now includes what was once
classified as direct labor) is a predominant part of total product cost.

In one area of the plant, the materials cost per unit of product is $8, and the direct labor cost is $1 per
machine hour.

Variable overhead costs have been budgeted as follows:

Per machine hour

Supplies and other indirect materials………... $0.80

Power ……………………………………………………. 0.40
Repairs and maintenance of equipment …… 0.50
Total unit cost …………………………………………… $1.70

The fixed factory overhead has been budgeted for the year as follows:

Factory supervision …………………………………. $ 475,000

Indirect labor ……………………………………………. 1,560,000
Payroll taxes & fringe benefits …………………. 278,000
Supplies and other indirect materials………. 162,000
Power …………………………………………………….. 330,000
Heat and light …………………………………………. 185,000
Repair & maintenance of equipment…….. 367,000
Repair & maintenance of plant .……………… 84,000
Taxes and insurance ……………………………… 68,000
Telephone …………………………………………….. 43,000
Miscellaneous factory overhead ………….. 12,000
Depreciation …………………………………………. 636,000
Total budgeted fixed overhead …………..$4,200,000
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The President of the company observes. “With such relatively high fixed overhead cost, it is
imperative that we operate at a high volume level to absorb the cost.”

The company manufactures 5 units of product per machine hour, and little can be done to
improve this rate of production. Attempts will be made to reduce fixed overhead, but the budget is
already tight.

Normal machine hours for the year have been established at 400,000. The immediate goal is to
operate at 600,000 machine hours per year.

Requirements:
a) Compute the product unit cost at a 400,000 machine hour level. (Show variable overhead costs
and fixed overhead costs separately.)
b) Compute the product unit cost at 600,000 machine hour level. (Show variable overhead costs
and fixed overhead costs separately.)
c) How much can unit cost be reduced by increasing production (and sales) by 50%, as represented
by the 50% increase in machine hours?
Problem 6

Nicholson Instruments, Inc. produces various measuring devices that are sold to the health care
industry. An instrument for testing blood is manufactured exclusively in one division.

A budget for the year shows that 450,000 instruments can be sold in the regular market next
year at a price of $95 per unit. Estimates indicate that the division will increase inventory next year by
30,000 units in anticipation of increased sales in subsequent years.

The variable costs to manufacture 480,000 units next year has been budgeted at $33,600,000.
The fixed manufacturing overhead for the year is expected to amount to $9,000,000. The fixed
manufacturing overhead is applied to production at the rate of $15 per unit.

The vice president of sales announces that 50,000 additional units can be sold to an overseas
government at a total contract price of $4,000,000 and the government will absorb the shipping
charges.

The president is reluctant to accept the contract, pointing out that it will cost $4,250,000 to
make 50,000 units and that the division will lose $250,000 on the contract.

The inventory is to be increased by 30,000 units whether the contract is accepted or not.

Requirements:

a) Prepare an estimated income statement for manufacturing for the next year by the variable
costing method and by the absorption costing method. (Exclude the government contract.)
b) Show why the income from manufacturing is more on the absorption costing statement than on
the variable costing statement.
c) Show how the president estimated the loss on the contract.
d) Explain how the contract can contribute additional profits.