Chapter 7 Supplement

Discussion Questions

Q1 The Design capacity is the maximum output volume which can be achieved theoretically in a given period of time, under ideal conditions. To
illustrate, in a forging hammer which has the ability of ten strokes per minute, the design capacity under ideal conditions would be ten forgings
per minute. Another way of illustrating design capacity is that if the Olympic champion, Usain Bolt is able to complete the 100 meter sprint in
less than ten seconds, his design capacity for completing a marathon of 42 kms would be or ! The Effective capacity is the realistic output, the
company can expect, given the various operating factors and constraints which normally occur, such as machine breakdowns, absenteeism,
product mix change and additional set up times, quality issues, preventive maintenance, shortage of raw materials, power outages and so on.
Effective capacity would therefore be less than the design capacity. The forging hammer’s output would be less than ten forgings per minute.
The Olympic record time for running a marathon has so far not broken the 2 hour barrier. The 100 meter sprint happens in a standard athletic
400 m track. Except for the starting and finishing of the Marathon event which happens in the Olympic athletic stadium, the route for
Marathons in Olympics is generally through the Olympic city roads with its curves, bends, ups and downs with crowds watching and cheering on
either side of the roads ! These conditions are quite different from the conditions for the 100 m event which decides the world’s fastest man !

Q2 Effective capacity is the production output per unit time, the operations manager realistically expects, given the various applicable
conditions and factors. To illustrate, if the capacity was designed to make 100 cc capacity motor bikes and the product mix is changed to 125 cc
bikes, then the effective capacity would be different. Effective capacity would be less than the theoretical design capacity.

Q3 Efficiency is a measure of the extent of utilization of the effective capacity. It is the ratio of the actual output to the effective capacity.

The actual output would be less than the effective capacity for a number of reasons.

Q4 Compute the actual or the expected output by deriving the product of the effective capacity and the efficiency

To illustrate, if a plant has an effective capacity to produce 100,000 bikes per year and has an efficiency of 85%, then the actual or expected
output would be bikes per year.

Q5 Doubling the capacity of a bottleneck may not double the system capacity. To solve the bottleneck issue, it is appropriate to increase the
capacity of the bottleneck. As the capacity of one workstation is increased, some other workstation could become the bottleneck. When
some other workstation becomes a bottleneck, further increasing the capacity of the first bottleneck workstation would not have any impact
on the overall capacity.

Q6 Capacity analysis:

It refers to the process of estimating the production capacity of a system. The three factors that help in the capacity analysis are the process
time of a station, the process time of a system, and the process cycle time. The following are the differences between the process time of a
system and the process cycle time:

• The longest process or the slowest workstation determines the process time of a system. The process cycle time is the time it takes for the raw
material to enter the production system and to exit as the finished product. • The process time of a system represents the longest time taken by
a single process. The process cycle time indicates the total time taken by all the processes in the system to manufacture the product.

• The process time of a system determines the capacity of a system. The process cycle time determines the ability of a system to build the entire
product.

The process time of a system and the process cycle time are two factors that help in the capacity analysis of a production system. The difference
between the two factors is that the process time of a system determines the capacity of a system and the process cycle time determines the
ability of a system to build the entire product.

Q7 Theory of Constraints is a specialized field of study that is concerned with “limits or constraints” which come in the way of the organization’s
ability to accomplish its goals. Some of these constraints can be

• Raw material availability • Vendor capabilities • Machine capacities • Working capital shortage • Skill sets of employees • Market demand and
so on.

The basis for the Theory of Constraints is a five step process to manage these limitations.

Q8: There are three components in the break even analysis

• Fixed costs • Variable costs • Revenues

The assumptions for break even analysis are

• The fixed costs remain fixed, irrespective of the volume.

This is a simplistic assumption since higher volumes at some stage may require more machine capacities or higher storage areas which may
change the fixed costs such as depreciation, rent and so on.

• The unit variable cost remains unchanged

There may be occasions when higher volumes of production may entail “overtime”, which would change the unit labor costs.

• The unit sales revenue remains fixed

It is not unusual to offer discounts for large volume sales to customers. Therefore, unit price realization may come down.

Q9 The normal assumption of the break-even analysis is that the unit sales revenue (P) is constant irrespective of the volume. In other words,
the total sales revenue (TR) can be expressed as a function of price (P) and sales volume x as follows:

Where price P is a constant.

The graph of revenue data is on a straight line, when P is constant as shown below:

Unit sales prices may not remain constant in the following situations

• For marketing higher volumes of production, price discounts may have to be given. Unit prices would change. • Higher availability of products
may depress the prices. • Higher volumes may increase the market dominance of the producer and he may be able to increase prices.
Therefore, the plotted revenue data may be a curve or a stepped ladder shape and not a straight line.

Q10 A firm may want its capacity to lag demand in the following situations:

• The firm may want to ensure that the demand increase is not just a “one off” occurrence and that the demand increase is long lasting. • There
may be some flexibility in terms of overtime or working extra shifts which allows postponement of new capacity additions. • There may be a
possibility of outsourcing/subcontracting. • The firm as a marketing strategy, may want to keep the market under supplied. To illustrate,
customers are willing to wait for some of the Apple products such as iPads, iPhones and so on. The hype created, adds to the brand equity.

A firm may want its capacity to lead demand in the following situations

• Additional capacity reduces the probability of stock outs and the possibility of the customer taking his business to a competitor. • As a tax
planning exercise, there may be advantages in setting off higher depreciation and therefore pay lower taxes. Consequently, a firm may install
additional capacity despite the possibility of under utilization. • Excess capacity gives the operations manager flexibility in preventive
maintenance scheduling without affecting the production volumes. • Availability of additional machines allows new employees to be trained
properly before these men/machines join the regular production line. • Availability of additional machines allows more setups and facilitate
shorter production runs, reducing finished inventory costs. • Phasing out of older and less efficient machines can be carried out without
disrupting production

Q11: One of the ways of illustrating the concept of net present value and its usage in comparing investments is explained below.

Investments are made today, to get returns in the future. Depending on the type of investments made, the returns may not start immediately
but perhaps after a few years. The returns every year may also change. Depending on the type of investment, the duration, or the period for
which the returns take place may also vary. To illustrate, consider the case of an investor trying to assess whether to make an investment of $1
million to buy land and plant rubber trees or to deposit in a bank in his own country as a time deposit for 15 years. The rubber trees once
planted would start yielding latex from the seventh year onwards and would continue to yield latex for 50 years after which the land may have
to be replanted. • In case the investor is from Japan, where the banks offer less than 1% annual interest for bank deposits of 15 years, then “the
time value of money” for the Japanese investor is 1% per year. This means that the future cash inflows from the rubber plantation would have
to be discounted at 1% per year.

The rubber trees would start yielding latex from the seventh year. For the first six years, there would be no returns. The seventh year cash

inflow of x dollars for the Japanese investor would have to be discounted as . In other words, the net present value of the seventh year
cash inflow of x dollars would be worth today only dollars to the Japanese investor. • In case the investor is from India, where the banks
offer 9% annual interest for bank deposits of 15 years, then “the time value of money” for the Indian investor is 9% per year. In other
words, the net present value of the seventh year cash inflow of x dollars would be worth today only dollars to the Indian investor. The Net
Present Value concept brings all future cash inflows and outflows to the present situation, so that comparison of alternate investments
becomes easier.

Q12: The basis for the Theory of Constraints is a five step process to manage these limitations as described below:

Identify the weakest link in the system.

Develop a plan to exploit fully or to use the maximum capability of the constraint. To illustrate, if a particular machine is a bottleneck, ensure
that proper preventive maintenance is carried out to reduce the probability of down time in the machine. Ensure that appropriate tools and
accessories are available, so that the machine is not idle due to these reasons.

Take efforts to mobilize resources, if required from “non-constraint” parts of the system and focus on accomplishing Step 2. Review whether
there is any let-up or reduction in the constraint.

Diminish the impact of the constraint by enhancing capacity or capability in the area of constraint. To illustrate, outsourcing some of the work
processed in the constraint machine may ease the constraints. Increase overtime or extra shift work of the constraint departments and so on.
Ensure that the entire organization is on the “same page” for overcoming this constraint. Invest if required, in prevailing over this constraint

After surmounting one set of constraints, go back to Step 1 to identify new constraints

Q13: The techniques available to operations managers to deal with a bottleneck operation are:

• Ensure that the bottleneck operation has the least idle time as this operation decides the overall productivity. The bottleneck should always be
kept busy with work. Therefore, the preventive maintenance operations should ensure that the probability of the bottleneck machine breaking
down is low. • The bottleneck operations should be manned by skilled employees to ensure maximum production. • Since setup times eat into
machine production time, make certain that in one production set up maximum production is obtained. Reduce the number of setups. • Explore
the possibilities of working the bottleneck operation for extra shifts and overtime. • Analyze the options for outsourcing or subcontracting part
of the operations performed by the bottleneck. In the above techniques, the option – “Reduce the number of setups” does not decrease the
process cycle time.

Problems

Q1 Calculate the utilization percentage, given that the design capacity hammers per day and the actual output hammers per day,
by using the formula

Q2: Calculate the efficiency, given that the effective capacity hammers per day and the actual production hammers per day
by using the formula

Q3 Calculate the actual output, given that the effective capacity and the efficiency by using the formula

…… (1) Rearrange the above and obtain

…… (2)

Substitute in equation (2), the values of effective capacity and efficiency and obtain
Q4: Calculate the efficiency, given that the effective capacity units per day and the actual production units per day, by using
the formula

Substitute the values and obtain

Q5 Calculate the effective capacity, given that the actual output units per day and the efficiency by using the formula

…… (1) Rearrange the above and obtain

Substitute in equation (2) the values of actual output units per day and the efficiency to obtain

Q6: Calculate the expected production in each of the three departments for the next quarter by using the formula

as shown below.

Departmen Effective Recent

Expected production
t capacity efficiency
Design 93,600 0.95
Fabrication 156,000 1.03
Finishing 62,400 1.05

Summarizing, the expected production in the three departments in the next quarter is

Departmen Expected
t production
Design 88,920
Fabrication 160,680
Finishing 65,520

Q7: Calculate the utilization percentage given the design capacity of SOSU is 2,000 students and the actual intake was only 1,450 new students

by using the formula Substitute the values and obtain Calculate the efficiency, given that the

effective capacity of SOSU new students and the actual intake students by using the formula Substitute the

values and obtain

Q8: Calculate the expected production of cars per service bay, given the effective capacity of a bay as 5.50 cars per hour and the efficiency as
0.880 by using the formula

Substitute in the above, the effective capacity of a bay as 5.50 cars per hour and the efficiency as 0.880
to obtain the expected production Derive the number of cars which can be serviced per bay given
that the expected production per bay is 4.84 cars per hour and the number of working hours per day is 8 hours Calculate the number
of bays required by dividing FL’s anticipated production of cars per day by the number of cars which can be serviced per bay

Rounding off to the next higher digit, the number of bays required is 6. Therefore, to achieve an anticipated production of 200 cars per 8 hour
day, the minimum number of bays required is 6.

Q9: Given that the first station has one machine which can process in 10 minutes, the second station has two machines, each of which can
process a unit in 12 minutes and the third station has one machine which can process a unit in 8 minutes, draw a schematic as shown in the
figure.
 The process time in station 1 is 10 minutes. In station 2, which has two machines, the output is two
units in 12 minutes or the output is one unit in 6 minutes. In station 3, the processing time per unit is 8 minutes. Among the three stations,
station 1 is the slowest (10 minutes), therefore station 1 is the bottleneck station.

Q10: Given that there are two machines in the workstation and each machine has a production capacity of 4 units per hour, draw a schematic
as shown below:

Each unit has to be processed independently in both the machines, but not
simultaneously. Each of the machines can work on a different unit simultaneously. One unit is taken up for processing in Machine A. The work is
completed in 15 minutes (60/4 minutes) in Machine A and moves to Machine B, where the rest of the work is completed and exits Machine B
after 15 minutes. Therefore, the total process cycle time is . Simultaneously, another unit is taken up for
processing in Machine B. The work is completed in 15 minutes in Machine B and moves to Machine A, where the rest of the work is completed
and exits Machine A after 15 minutes. Therefore, the total process cycle time for the second unit again is . In
other words, two completed units are ready after 30 minutes. Therefore, the process time of the work cell is 15 minutes per unit.

Q11 a)Determine the process time by first deriving the processing time on each machine at each station.

Station 1 Given that there are two machines A and B, each having a capacity of 20 units/hour, the processing time on each machine is
minutes in Station 1. Since two machines are simultaneously working, the output of Station 1 is two units in 3 minutes.

Station 2: Given that the capacity of Station 2 is 5 units/hour, the processing time at Station 2 is minutes per unit.

Station 3: Given that the capacity of Station 3 is 12 units/hour, the processing time at Station 3 is minutes per unit.

Among the three stations, Station 2 is the slowest and is the bottleneck. Therefore, The process time of the system is same as that of Station 2,
which is 12 minutes/unit.

b)Station 2 is the bottleneck and the bottleneck time of this work cell is 12 minutes.

c)The process cycle time is the sum of the process times in each of the Stations.

The process time in Station 1 is for both the machines. As worked out earlier, the process time in Station 2 is 12 minutes and the
process time in Station 3 is 5 minutes. Therefore, the process cycle time is

d)Calculate the weekly capacity (10 hours per day and five days a week ), given that the process time of the work cell is 12 minutes, as follows

The weekly capacity is 250 units per week.

Q12 a) Derive the process cycle time of the work cell by adding the individual process times in the various stations. At Station 1, the process
time is 20 minutes/unit in both the parallel machines A and B. At Station 2, the process time is 12 minutes/unit At Station 3, the process time is
8 minutes/unit. Therefore, the total process cycle time is
b) Compute the system process time by working out the bottleneck capacity. At Station 1, there are two parallel machines, each having a
process time of 20 minutes per unit. The two machines together are able to deliver one unit in 10 minutes. At Station 2, the processing time
is 12 minutes/unit. At Station 3, the processing time is 8 minutes/unit. Comparing the three stations, Station 2 is the slowest and it takes 12
minutes per unit. Station 2 is the bottleneck Station. Therefore, the system process time is 12 minutes.

c)Calculate the weekly capacity of the work cell, given that the firm operates 8 hours/day, 6 days a week and that the system process time is 12
minutes, as follows:

The weekly capacity of the work cell is 240 units/week.

Q13 a)Derive the process cycle time of the work cell by adding the individual process times in the various stations.

At Station 1, the process time is 20 minutes/unit in both the parallel machines A and B. At Station 2, the process time is 12 minutes/unit in the
two parallel machines. At Station 3, the process time is 8 minutes/unit. Therefore, the total process cycle time
is

b) Compute the system process time by working out the bottleneck capacity. At Station 1, there are two parallel machines, each having a
process time of 20 minutes per unit. The two machines together are able to deliver one unit in 10 minutes. At Station 2, there are two parallel
machines, each having a processing time of 12 minutes/unit. The two machines together are able to deliver one unit in 6 minutes At Station 3,
the processing time is 8 minutes/unit. Comparing the three stations, Station 1 is the slowest as it takes 10 minutes per unit. Station 1 is the
bottleneck Station. Therefore, the system process time is 10 minutes.

c) Calculate the weekly capacity of the work cell, given that the firm operates 8 hours/day, 6 days a week and that the system process time is 10
minutes, as follows:

The weekly capacity of the work cell is 288 units/week.

d) The addition of the second machine at Station 2 moved the bottleneck from Station 2 to Station 1. The process time changed from 12
minutes to 10 minutes. The weekly capacity increased from 240 units/week to 288 units/week. The addition of the second machine at Station 2
increased the capacity by (288-240) units/week i.e 48 units/week

Q14 a) Calculate the bottleneck in the process, given that Part 1 is processed in workstation A followed by workstation B. Part 2 is processed in
workstation C, after which the two parts are assembled at workstation D as shown in the schematic.

Observe that on comparison of the two production streams, work station C is the slowest
taking a time of 20 minutes. Workstation C is the bottleneck in this process.

b) Calculate the hourly capacity of the process, given that the workstation C is the bottleneck in this process taking a time of 20 minutes as

follows: Hourly capacity units per hour The process capacity is 3 units per hour .

Q15 This is the production process available at Company KD. It has the following number of operations which are carried out in the entire
process; they are sawing, sanding, drilling, welding and assembly.

a.Bottleneck operation: Flowchart with processing time

 The processing time for each process is: Sawing is , therefore the processing time
is Sanding is , therefore the processing time is Drilling is , therefore the processing time
is Welding is , therefore the processing time is Assembly is , therefore the overall

processing time is . Therefore the processing time per unit for assembly is From the above calculation, we see that
welding takes the longest time of . Therefore it is the operation with bottleneck.

b) Process time: The overall system process time is the time taken by the bottleneck process, which is the welding process. Therefore the
process time is .

c) Process cycle time:

Total process cycle time is

d.Monthly capacity of manufacturing process:

The monthly capacity of the manufacturing process is .

Q16 Calculate the break-even point (BEPx ) in units, given that the fixed cost , the unit selling price and the unit variable

cost by using the formula … (1) Substitute in equation (1), the values of , and to obtain

The break-even point in units is 2,000 units.

b)Calculate the break-even point in dollars ( ), given that the fixed cost , the unit selling price and the unit

variable cost by using the formula The break-even point in dollars is $1,500

Q17 a)Calculate the break-even point BEPAx in units for proposal A, given that the fixed cost , the unit selling price and the
unit variable cost by using the formula
 … (1) Substitute in equation (1), the values of , and to obtain The break-
even point in units for proposal A is 6,250 units .

b)Calculate the break-even point BEPBx in units for proposal B, given that the fixed cost , the unit selling price and the unit
variable cost by using the formula

… (2) Substitute in equation (2), the values of , and to obtain

The break-even point in units for proposal B is 7,000 units

Q18 a)Calculate the break-even point in dollars (BEPA$ ) for proposal A, given that the fixed cost with the installation
cost , the unit selling price and the unit variable cost by using the formula

… (1) Substitute in equation (1), the values of , and to obtain The break-even
point for proposal A is $150,000 .

b)Calculate the break-even point BEPB$ in dollars for proposal B, given that the fixed cost with the installation

cost , the unit selling price and the unit variable cost by using the formula … (2)

Substitute in equation (2), the values of , and to obtain

The break-even point for proposal B is $160,000

Q19 Denote x as the volume of output, when both the alternatives yield the same profit. Calculate the profit for proposal A, given that the fixed
cost , the unit selling price and the unit variable cost by using the formula

… (1) Substitute in equation (1), the values of , and to obtain

… (2) Calculate the profit for proposal B, by substituting in equation (1), the values of
, and to obtain … (3)

Obtain the value of x by equating from equations (2) and (3)

Simplify and obtain

At a production volume of 10,000 units, the profitability of proposal A and proposal B are the same
Q20 a)Calculate the break-even point in units (BEPAx) for Oven type A, given that the fixed cost , the selling price per

pizza and the unit variable cost per pizza by using the formula … (1)

Substitute in equation (1), the values of , and to obtain

The break-even point for Oven type A is 1,667 pizzas . Calculate the break-even point BEPBx in units for Oven type B, by substituting in equation
(1), the values of , and to obtain

The break-even point for Oven type B is 2,353 pizzas .

b) Calculate the profitability of each type of oven for a volume of 9,000 pizzas, for taking an appropriate purchasing decision on the type of
Oven as described below. Compute the profit for the Oven type A ( ), given that the fixed cost , the unit selling price
and the unit variable cost by using the formula … (2)

where the volume of pizzas

Substitute in equation (2), the values of , and to obtain

Compute the profit for the Oven type B, by substituting in equation (2), the values of , and to obtain

For a volume of 9,000 pizzas, the profitability with the Oven type A is higher than the
profitability with the Oven type B. JH should purchase Oven A.

c)Calculate the profitability of each type of oven for a volume of 12,000 pizzas, for taking an appropriate decision on the type of Oven as
described below. Compute the profit for the Oven type A ( ), given that the fixed cost , the unit selling price and the
unit variable cost by using the formula … (3) where the volume of pizzas Substitute in equation (3),

the values of , and to obtain Compute the profit for the

Oven type B, by substituting in equation (3), the values of , and to obtain

For a volume of 12,000 pizzas, the profitability with the Oven type A is marginally
higher than the profitability with the Oven type B. JH should purchase Oven A.

d)Denote x as the volume of pizzas, when JH can switch her choice of the oven type depending on the profitability. Compute the profit for the
Oven type A ( ), given that the fixed cost , the unit selling price and the unit variable cost by using the formula

… (4) Substitute in equation (4), the values of , and to obtain

… (5) Compute the profit for the Oven type B ( ), by substituting in equation (4), the

values of , and to obtain … (6) Derive the

volume x, when the profitability is the same for both types of ovens by equating (5) and (6)

Rearrange and simplify to get

 At a volume of 13,333 pizzas , JH should decide on Oven type B as it will be more profitable

Q21 a)Calculate the break-even point BEPx in units, given that the fixed cost , the unit selling price and the unit variable
cost by using the formula

… (1) Substitute in equation (1), the values of , and to obtain

The break-even point in units is 12,500 units .

b)Calculate the break-even point in dollars ( ), given that the fixed cost , the unit selling price and the unit
variable cost by using the formula

Substitute the values in the above to obtain

The break-even point in dollars is $100,000.

c)Compute the profit, given that the fixed cost , the unit selling price and the unit variable cost by using the
formula

… (2) where the volume units. Substitute in equation (2), the values of ,
, and to obtain The profit at 10,000 units is $350,000

Q22 a)Calculate the break-even point in dollars , given that the fixed cost , the unit selling price and the unit
variable cost by using the formula

Substitute the values and obtain

The break-even point in dollars is $18,750 .

b)Calculate the break-even point in units BEPx, given that the fixed cost , the unit selling price and the unit variable

cost by using the formula Substitute the values to obtain

The break-even point in units is 375,000 units

Q23 Decide whether to buy the new equipment by evaluating the profitability of the two options. (1) Continue manufacturing the item with
Fixed costs of $14,000, selling price of $1, variable cost of $0.50 and volume of 30,000 units, and (2) Buy the new equipment and manufacture
the item with Fixed costs of $20,000, selling price of $1, variable cost of $0.60 and volume of 50,000 units, as explained below.

Option 1Compute the profit, given that the fixed cost , the unit selling price and the unit variable cost by
using the formula … (1) where the volume units. Substitute in equation (1), the values of
, , and to obtain

.Option 2 (with the new equipment)

Compute the profit by substituting in equation (1) the fixed cost , the unit selling price ,the volume and

the unit variable cost , to obtain

The first option shows a profit of $1,000 and the second option shows no profit.

Therefore, the company should not buy the new equipment.

Q24 5013-7S-24P AID: 1825 | 08/08/2013 RID: 3343 | 13/08/2013

Decide whether to buy the new equipment by evaluating the profitability of the two options. (1) Continue manufacturing the item with Fixed
costs of $14,000, selling price of $1, variable cost of $0.50 and volume of 30,000 units and (2) Buy the new equipment and manufacture the
item with Fixed costs of $20,000, selling price of $1.10, variable cost of $0.60 and volume of 45,000 units, as explained below.

Option 1 Compute the profit, given that the fixed cost , the unit selling price and the unit variable cost by

using the formula … (1) where the volume units. Substitute in equation (1), the values
of , , and to obtain .

Option 2 (with the new equipment)

Compute the profit by substituting in equation (1) the fixed cost , the unit selling price , the volume
and the unit variable cost , to obtain .

The first option shows a profit of $1,000 and the second option shows a higher profit.of $2,500

Therefore, the company should buy the new equipment and raise the price.

Q25 Calculate the break-even point in units BEPxman for the manual process, given that the fixed cost , the unit selling

price per bag and the unit variable cost per bag by using the formula … (1)

Substitute in equation (1), the values of , and to obtain

The break-even point for the manual process is 50,000 bags per month.

b.Calculate the break-even point in dollars BEP$man, given that the fixed cost , the unit selling price per bag and the unit

variable cost per bag by using the formula Substitute the values and obtain
The break-even point for the manual process in dollars is $125,000.

c.Calculate the break-even point in units BEPxmech for the mechanical process, given that the fixed cost , the unit selling

price per bag and the unit variable cost per bag by using the formula … (2) Substitute in equation (2),

the values of , and to obtain

The break-even point for the mechanical process is 60,000 bags per month .

d.Calculate the break-even point in dollars BEP$mech, given that the fixed cost , the unit selling price per bag and the

unit variable cost per bag by using the formula

Substitute the values and obtain The break-even point in dollars is $150,000 .

e. Compute the monthly profit for the manual process, given that the fixed cost , the unit selling price per bag and the
unit variable cost per bag by using the formula … (3) Where the volume bags per month
Substitute in equation (3), the values of , , and to obtain

The monthly profit for the manual process is $7,500 .

f.Compute the monthly profit for the mechanical process, given that the fixed cost , the unit selling price per bag

and the unit variable cost per bag by using the formula Where the volume bags per
month Substitute in equation (4), the values of , , and to obtain

The monthly profit for the mechanical process is $37,500 .

g.Denote x as the quantity where both the manual and the mechanical processes make the same profit.

Compute the monthly profit for the manual process, given that the fixed cost , the unit selling price per bag and the
unit variable cost per bag by using the formula … (5) where the volume is x bags per month.

Substitute in equation (5) , the values of , and to obtain

… (6) Compute the monthly profit for the mechanical process, given that the fixed
cost , the unit selling price per bag and the unit variable cost per bag by using the formula
where the volume is x bags per month. Substitute in equation (7), the values of ,

and to obtain … (8) Derive the value of x by

equating from equations (6) and (8) Rearrange and simplify to obtain
At a monthly volume of 75,000 bags per month, ZA and AZ are indifferent regarding the choice of the process, whether manual or
mechanical, since the profitability is identical.

h.Use equations (6) and (8) to draw the graph of monthly profits in relation to the production volumes for both the manual and mechanical
processes as shown.

Observe from the graph that

• The manual process shows a higher profitability up to a monthly volume of 75,000 lettuce bags per month.

• The mechanical process shows a higher profitability above a monthly volume of 75,000 lettuce bags per month.

Q26 a)Calculate the break-even point in dollars per month, using the formula

… (1) Here, F is the fixed costs Vi is the variable cost for the ith item, Pi is the price for the ith item

Wi is the ratio of revenues of the ith item to the total revenues. Derive the total fixed costs, given that the fixed cost of rent, utilities and so on is
$1,800 per month and the expenditure on entertainment is $2,000 per month.

Calculate Wi, the ratio of revenues of the ith item to the total revenues as shown below:

Calculate given the individual variable costs and prices as

follows:

Substitute the value of fixedcost and in

equation (1) to obtain
 The break-even point in dollars per month

b)Use the following formulas to calculate the expected meals per day by allocating the break-even point in dollars per month ($7,600) to the

various heads of revenues as shown.

The number of meals per day at break-even is 9 meals /day.

Q27 a)Calculate the break even point in dollars per month, using the formula … (1) where F is the fixed costs, Vi is the
variable cost for the ith item, Pi is the price for the ith item and Wi is the ratio of revenues of the ith item to the total revenues. Derive the total
fixed costs, given that the fixed cost of labour is $250 per night and the expenditure on booth rental is $50×5=$250 per night.

Calculate given the individual variable costs and prices as follows:

Selling Normal Variable Variable costs including +10% variable Percentage of

price Pi cost costs (Vi) 1- revenue (Wi)
0.71 0.28
Soft drink $1.00 $0.65 0.715 0.25 0.071
5 5
0.59 0.40
Wine $1.75 $0.95 1.05 0.25 0.101
7 3
0.33 0.67
Coffee $1.00 $0.30 0.33 0.3 0.201
0 0
0.33 0.67
Candy $1.00 $0.30 0.33 0.2 0.134
0 0

0.507

Substitute the value of fixed cost and in equation (1) to obtain The break even point in

dollars per month .

b)Calculate the expected sale of wine by allocating the break even point in dollars per month $986.19 to different revenue heads as follows.

Weightag Revenue
Category
e s
Soft 0.25 246.548
drink
Wine 0.25 246.548
Coffee 0.3 295.857
Candy 0.2 197.238

Calculate the wine unit sales by dividing the revenues through wine sales of $246.55 by the unit price of $1.75 to obtain sales of units per night

The sales of wine expected per night is 140.88 unit.

Q32 JL’s Bed and breakfast decided to subdivide (remodel) the large old home to become its inn. The three alternative options to subdivide are
as follows:

Calculate the Expected Monetary Value (EMV) for all the three options to identify the highest (EMV) option as shown below: Calculate the
Expected Monetary Value (EMV) for option A, given that the probability of a profit of $90,000 is 0.5 and the probability of a profit of $25,000 is

0.5 as follows. Thus, the Expected Monetary Value (EMV) for option A is $57,500

Calculate the Expected Monetary Value (EMV) for option B, given that the probability of a profit of $80,000 is 0.4 and the probability of a profit

of $70,000 is 0.6 as follows. Thus, the Expected Monetary Value (EMV) for option B is $74,000

Calculate the Expected Monetary Value (EMV) for option C, given that the probability of a profit of $60,000 is 0.3 and the probability of a profit

of $55,000 is 0.7 as follows. Thus, the Expected Monetary Value (EMV) for option C is $56,500

Therefore, Option B which involves modernizing only the second floor has the highest Expected Monetary Value of $74,000.

Q33 Determine the type of process to be selected:

Draw the decision tree showing the various options for deciding on to select the larger line with an investment of $400,000 and a small line with
an investment of $300,000. Calculate the Expected Monetary Value of the two options, given the probabilities of the two options.
Calculate Expected Monetary Value for Large line:

Calculate the Expected Monetary Value ( )in large line with a process cost of $400,000, given that the probability of a high demand of

$600,000 is and the probability of a low demand of $300,000 is as follows:

The Expected Monetary Value for Large line is

Calculate Expected Monetary Value for Small line: In small line, when the demand is high there is possibility of expanding by spending
additional $150,000 sales revenue of $500,000. This results in profit less than $50,000 when compared to not expanding. The decision not to
expand leads to sales revenue of $400,000 and a profit of $100,000. Therefore expansion is not a good idea.

Calculate the Expected Monetary Value ( ) in small line with a process cost of $300,000, given that the probability of a high demand of

$600,000 is and the probability of a low demand of $300,000 is as follows:

The Expected Monetary Value for small line is Comparing the two expected monetary value calculations, choose for investment in the
large line which has an , compared to an investment in a small line which has an

Q34 Calculate the net present value of the investment of $75,000, given that there will be an annual profit of $15,000 every year for next five
years and there will be a salvage value of $45,000 at the end of the fifth year. It is also given that the cost of capital at this risk level is 12%.

Derive the Present Value (PV) of the future inflows as shown with a discounting factor of 12%.

The Present Value of the future inflows is $79,605.85

Given the investment of $75,000, the Net Present Value would be Alternately, use the annuity tables to arrive
at the values as shown.
From the annuity tables, make out that the present value of annuity of $1 received every year in the next five years is $3.605. Therefore,
receipts of $15,000 every year would mean that the present value is . From the present value tables, make out
that the present value of $1 received after five years is $0.567. Therefore, receipts of $45,000 after five years would mean that the present
value is . Therefore, the present value of the future cash flows is . The net present value

is The minor difference in the values from the two different methods is due to rounding off errors

Q35 Calculate the net present value of the investment of $65,000, given that there will be an annual return of $16,000 every year for the next
eight years and also given that the cost of capital is 10%, as follows: Derive the Present Value (PV) of the future inflows as shown with a

discounting factor of 10%.

The Present Value of the future inflows is $85,358.82 Given the investment of $65,000, the Net Present Value would

be Alternately, use the annuity tables to arrive at the values as shown.

From the annuity tables, make out that the present value of annuity of $1 received every year in the next eight years is $5.335. Therefore,
receipts of $16,000 every year would mean that the present value is .

The net present value is The minor difference in the values from the two different methods is due to rounding off errors.

Q36 Calculate the present value of $5,600, given that the amount would be received after 15 years and the interest rate is 8%, as follows:

The present value is .Alternately, from the present value tables, make out that the present value of
$1 received after fifteen years at 8% is $0.315. Therefore, the present value of $5,600 received after 15 years is The
minor difference in the values from the two different methods is due to rounding off errors

Q37 Calculate the Net Present Value of both the machines, A and B to decide on which is more economical.

Machine A Calculate the Net Present Value, given that the original cost of Machine A is $10,000, annual labour costs per year for three years is
$2,000, annual maintenance costs per year for three years is $4,000 and the salvage value at the end of three years is $2,000 as follows:

The Net Present Value of all costs on Machine A is $22,987.43

Machine B Calculate the Net Present Value, given that the original cost of Machine B is $20,000, annual labour costs per year for three years is
$4,000, annual maintenance costs per year for three years is $1,000 and the salvage value at the end of three years is $7,000 as follows:

The Net Present Value of all costs on Machine B

is $27,503.12

T should recommend Machine A, as it is more economical than Machine B.

Alternatively, from the present value tables, make out that the present value of $1 received after one year at 12% is $0.893, the present value
of $1 received after two years at 12% is $0.797 and the present value of $1 received after three years at 12% is $0.712.

Machine A Using these values, calculate the Net Present Value as follows:

The Net Present Value of costs of Machine A is $22,988

Machine B Using these values, calculate the Net Present Value as follows:

The Net Present Value of costs of Machine B is $27,026

T should recommend Machine A, as it is more economical than Machine B.

(The minor difference in the values from the two different methods is due to rounding off errors.)

Q38 a) Determine the net present value (NPV) for both types of oven to take a decision on economical one:

Three small ovens:

It is given that the original cost of small ovens is $3,750, excess of annual labor costs over large ovens per year for five years is $750, annual
maintenance costs per year for five years is $750 and the salvage value at the end of five years is $750 as follows:

Hence, the Net Present Value of all costs on the three small ovens is .

Step 2/5

Two large ovens: It is given that the original cost of two large ovens is $5,000, the annual maintenance cost per year for five years is $400 and

the salvage value at the end of three years is $1,000 as follows:

Hence, the Net Present Value of all costs on the two large ovens is .

Step 3/5

Inference: The boss should purchase two large ovens, as it is economical when compare to three small ovens.

Step 4/5

b) Determine the assumptions made regarding the ovens:

• The capacity of three small ovens is same as the two large ovens. • There is no difference in the quality of operation of the ovens.

• There will be no variation in the predicted costs and salvage value.

Step 5/5

c) Determine the assumptions made in the methodology: • The boss has adequate money to buy either of the two options. In other words,
availability of finance is not an issue. • All payments and receipts happen at the end of the period. In other words, expenditures such as labor
and maintenance are assumed to take place towards the end of the first year, towards the end of the second year, towards the end of the third
year and so on. Similarly, the salvage value is realized towards the end of five years. • The discounting rate of 14% will not change in the next
five years

Q39: a)Calculate the present value profit/loss of the deal by depicting graphically all the expenditures (outflows) and revenues (inflows) as

shown.

The assumptions for the cash flows as shown in the diagram are: • Investment of $1,000,000 takes place in the beginning of the first year. •
Expenses for annual upkeep and expenses of $75,000 happens at the end of every year for the next six years. • The annual membership fees for
500 members @ $600 are collected at the beginning of every year for six years. • The salvage value of $50,000 is realized at the end of the sixth
year. Calculate the Net Present Value of costs (outflows), given the interest rate of 10% as shown

The Net Present Value of costs (outflows) is $1,326,645 Calculate the Net Present Value of
revenues (inflows), given the interest rate of 10% as shown

The Net Present Value of revenues (inflows) is $1,465,460 The present value of
profits is Alternately, use the present value tables and make out that• The present value of an annuity of $1 for six
years at an interest rate of 10% is 4.355. • The present value of an annuity of $1 for five years at an interest rate of 10% is 3.791.• The present
value of $1 received after 6 years is $0.564.

The Net Present Value of costs (outflows) is The Net Present Value of revenues (inflows)
is The present value of profits is (The minor difference in
the values from the two different methods is due to rounding off errors.)

B )Decide the attractiveness of the offer to BG, of $3,000 upfront fees for a six year membership compared to collecting $600 every year at the
beginning of the year for six years, by first depicting graphically the two options as shown below.

Using the present value tables, make out the present value of $1 annuity every year
for six years as 4.355. Calculate the present value of receipt of $600 every year as club membership fees for six years
as Collecting upfront $3,000 for a six year membership is more attractive, compared to collecting $600 every year
for six years (PV is only $2,613).