E16-23.

a. Mountain Air should make the electric motor.

Cost to
Make
Purchase price ($5.00 10,000)

$50,000

Manufacturing costs:
Direct mat. ($2 10,000)
Direct labor ($1.50 0.50 10,000)
Variable overhead ($2* 0.50 10,000)
Total
Advantage of making

Cost to
Buy

Difference
(Effect of Buying
on Income)

$(50,000)

$20,000

20,000

7,500

7,500

10,000
$37,500

$50,000

10,000
$(12,500)

$12,500

*Total factory overhead

Fixed factory overhead ($50,000 / 10,000)
Variable factory overhead

$ 7 per unit
(5) per unit
$ 2 per unit

b. Mountain Air should buy the electric motor.

Cost to
Make
Purchase price
Manufacturing costs:
Outlay
Opportunity
Total
Advantage of buying

$37,500
20,000
$57,500

Cost to
Buy
$50,000

$50,000

Difference
(Effect of Buying
on Income)

$(50,000)
37,500
20,000
$ 7,500

$ 7,500

c. Management should consider a number of nonquantitative factors in deciding

whether to make or buy the motors. They should consider the quality of their
own and the supplier's motors. They should also consider the dependability of
the supplier. Does Mini Motor have a track record of meeting its commitments?
They should also attempt to determine if Mini Motor will extend the contract to
supply motors for a number of years or whether it is attempting to use some
temporarily idle capacity.
E16-26.
a.
X
Y
Z
Unit contribution margin
$60
$ 50
$30
Labor hours per unit
6
4
6
Contribution per labor hour
$10
$12.50
$ 5

1. Product Z has the highest unit selling price.

2. Product X has the highest unit contribution margin.
3. Product Y has the highest contribution per labor hour.
The weekly contribution obtained with the use of each criterion is:

Labor hours available

Labor hours per unit
Weekly production
Unit contribution margin
Weekly contribution

Highest Unit
Selling Price
Z
240

Highest
Contribution
per Unit
X
240

Highest
Contribution per
Labor Hour
Y
240

40
$30

40
$60

60
$50

$1,200

$2,400

$3,000

b. To achieve short-run profit maximization, a for-profit organization should allocate

limited resources in a manner that maximizes the contribution per unit of
constraining factor.
c. The decision to produce 12 units of Z will result in a weekly opportunity cost of
$900. This is the net benefits that would have been derived from producing 20
units of Y.
Labor hours to produce 12 units of Z (12 units 6 hours per unit)
Labor hours per unit of Y
Required reduction in the production of Y
Unit contribution margin for Y
Opportunity cost

72

4
18
$50
$900

Producing 12 units of Z will reduce profits by $1,440 from their maximum

possible amount.
Contribution from Z (12 units $30)
Opportunity cost
Net disadvantage of producing 12 units of Z

$ 360
(900)
$ (540)
Continued next page

E16-26.
concluded
c. continued
This can also be computed as the difference between the hourly contribution of Y
and Z times the 72 labor hours that would be required to product 12 units of Z, or
($12.50 $5.00) 72 = $540.
d. First, there may not be enough demand to allocate all limited resources to the
most profitable product. Second, even if there is sufficient demand, it may be
advisable to produce and sell some less profitable products for the sake of
offering a full line of products and giving customers alternatives. Third, less
profitable products may be offered if they are complimentary to the more
profitable products. In some cases, what appears to be the main and most
profitable product is actually the secondary product in terms of profits. For
example, the warehouse retailers, such as Sams and Costco, essentially break
even on the merchandise they sell in their stores, and make most of their profit
on membership fees. Similarly, some retailers earn more profit on warranty
programs sold than on the products for which the warranties are offered.
P16-32.
Glacier's management undoubtedly believes the promotion is good advertising and
that it will have long-run benefits that are not easily quantified. The problem focuses
on the short-run net costs or benefits of the promotion under a variety of possible
situations. Management might want this type of information to help them evaluate
the desirability of continuing or modifying the promotion.
a. Incremental revenues from coupon sales (500 $4)
Incremental costs:
Ice cream (500 25 $0.40)
Coupons
Loss

$ 2,000
$5,000
50

(5,050)
$(3,050)

Each coupon redeemed cost Glacier $0.40. The sales of coupons will provide
revenues to absorb this cost. The break-even point for coupon redemptions
occurs when the cost of coupon redemptions absorbs all of the revenues from
coupon sales.
b. Incremental revenues from coupon sales (500 $4)
Less cost of coupons
Contribution assuming no coupons are redeemed
Cost per redemption
Coupon redemptions for break-even

$2,000
(50)
$1,950
$0.40
4,875

In effect, the break-even computation is being reversed. Instead of the normal:

Break-even point = Fixed costs / Unit contribution margin,

we have:
Break-even point = Revenues / Unit loss of redemption
Break-even redemption rate

=
=

4,875 / (500 pkgs. 25 coupons/pkg.)

0.39 or 39 percent

continued next page

P16-32.
continued
c. The sale of an additional cone with each redemption reduces the net loss per
redemption, and this increases the number of coupons that can be redeemed
before all coupon sales are absorbed.
Loss per redemption:
Loss on coupon redeemed
0.40
Less contribution from addition sale ($0.60 $0.40)
(0.20)
Net loss per redemption
0.20
Incremental revenues from coupon sales (500 $4)
$2,000
Less cost of coupons
(50)
Contribution assuming no coupons are redeemed
$1,950
Net loss per redemption
$0.20
Coupon redemptions for break-even
9,750

Break-even redemption rate = 9,750/(500 25) = 0.78, or 78 percent

d. Incremental revenues from coupon sales (500 $4)
Less cost of coupons
Sixty percent of the coupons are redeemed:*
One-fourth of which have no effect on sales:
Cost of redemption (7,500 0.25 $0.40)
One-fourth of which result in additional salesof 2 singlescoop cones:
Cost of redemption (7,500 0.25 $0.40)
Contribution of additional sales [7,500 0.25 2
($0.60 $0.40)]
One-fourth of which result in addition sales of 3 singlescoop cones:
Cost of redemption (7,500 0.25 $0.40)
Contribution of additional sales [7,500 0.25 3
($0.60 $0.40)]

$2,000
(50)

(750)

$(750)

750

$(750)

1125

375

One-fourth of which come out of regular sales:

Cost of redemption (7,500 0.25 $0.40)
(Opportunity cost of loss of regular sales [7,500 0.25
($0.60 $0.40)]
Profit
*(500 25 0.60 = 7,500)

$(750)

(375)

(1,125)
$

450