Managerial Accounting – Allocating Scarce Resources
Introduction
When allocating costs in terms of volume, the product whose output is the highest will receive the highest allocation level of apportionment. The product with fewer volumes may take unequal amount of time and the material needed to set up, but the allocation will be limited to a small proportion of the support cost.
Fixed costs are company or business expenses that are not related or dependent on the level of quantity of goods or services produced by the company. They tend to be periodical or time-related such as salaries or rent payable monthly or quarterly. The operating statement shows the comparison between the various production costs and their effect on the fixed cost. It shows whether the fixed costs are economically viable and if the business is benefiting or incurring losses. (Khan, 1993)
| Hezing Company | ||
| Product M | Product N | |
| Selling Price | 75 | 90 |
| Variable cost | 48 | 55 |
| Labour hours | 3 | 5 |
| Sales | 8000 | 7000 |
| Machine hours | 6 | 10 |
- a) One unit of Product M requires 3 hours of labor to produce, and one unit of Product N
requires 5 hours of labor to produce. Due to labor constraints, demand is higher than
the company’s capacity to make both products.
The products to be produced are; 48M + 3 = 75 and 55N + 5 = 90
48M = 75 – 3 = 72
48M = 72
M = 72/48
M = 1.5
55N + 5 = 90 – 5 =
55N = 85
N = 85/55
N = 1.54
It’s better to produce product N.
- b) The products are sold to the public in retail stores. The company has limited floor space
and cannot stock as many products as it would like. Display space is available for only
one of the two products. Expected sales of Product M are 8,000 units, and expected
sales of Product N are 7,000 units.
48M + 3 = 75 * 8000
48M = 72 * 8000
48m = 576000
M = 12000
55N + 5 = 90
55N = 90- 5 * 7000
55N = 85 *7000
55N = 595000
N = 595000/ 55
N = 10,818.
It’s better to produce product M
- c) The maximum number of machine hours available is 36,000. Product M uses 6 machine hours, and Product N uses 10 machine hours. The company can sell all the products it produces.
Total hours for the units are 16 machine hours and total units as per machine hours are 36000/16 = 2250 units per total machine hours. Machine M uses 844 units per machine hours while N is 1406.
While each unit will have 36000/6 * 75 = 450, 000 for product M.
While N = 36000/10 * 90 = 324,000
It’s better to produce product M.
- Recommend whether to replace the old machine on January 1, 2008. Support your answer
with appropriate computations.
| Old Machine | New Machine | |
| Cost | 180000 | 240,000 |
| Book Value | 160,000 | |
| Scrap value | 0 | 0 |
| Depreciation | 40,000 | 40,000 |
| Operating cost | 156,000 | 120,000 |
| Life of Machine | 4 years | 6 years |
| Income | 320,000 | 320,000 |
| Total expenses | 196,000 | 160,000 |
| Net Income | 124,000 | 160,000 |
The net income on the new machine is much higher than the old machine. The new machine has a net income of 160,000 while the old machine has an income of 124,000.
The total expenses incurred on the old machine are much higher than on the new machine. The total expenses of the old machine are 196,000 which entail the annual depreciation of 40,000 and the operating costs of 156,000. The new machine has total expenses amounting to 160,000 which include 40,000 depreciation and 120,000 as operating costs. (Vance, 2003)
The company should purchase the new machine.
- Prepare income statements for four years (2008 through 2011) assuming that the old machine is retained.
| Units | @ | Total Sales | 2009 | 2010 | 2011 | |
| Sales M | 8000 | 75 | 600000 | 600000 | 600000 | 600000 |
| Sales N | 7000 | 90 | 630000 | 630000 | 630000 | 630000 |
| Total sales | 1230000 | 1230000 | 1230000 | 1230000 | ||
| Labour (M) | 8000 | 3 | 24000 | 24000 | 24000 | 24000 |
| (N) | 7000 | 5 | 35000 | 35000 | 35000 | 35000 |
| Operating Costs | (Machine) | 156,000 | 156,000 | 156,000 | 156,000 | |
| Depreciation | 40,000 | 40,000 | 40,000 | 40,000 | ||
| Variable Costs( M) | 8000 | 48 | 384000 | 384000 | 384000 | 384000 |
| (N) | 7000 | 55 | 385000 | 385000 | 385000 | 385000 |
| 1024000 | 1024000 | 1024000 | 1024000 | |||
| Net Profit | 206000 | 206000 | 206000 | 206000 |
- Prepare income statements for four years (2008 through 2011) assuming that the old machine is replaced.
| Units | @ | Total Sales | 2009 | 2010 | 2011 | |
| Sales M | 8000 | 75 | 600000 | 600000 | 600000 | 600000 |
| Sales N | 7000 | 90 | 630000 | 630000 | 630000 | 630000 |
| Sale of old machine | 180,000 | |||||
| Total Income | 1410000 | 1230000 | 1230000 | 1230000 | ||
| Labour (M) | 8000 | 3 | 24000 | 24000 | 24000 | 24000 |
| (N) | 7000 | 5 | 35000 | 35000 | 35000 | 35000 |
| Operating Costs | (Machine) | 120,000 | 120,000 | 120,000 | 120,000 | |
| Depreciation | 40,000 | 40,000 | 40,000 | 40,000 | ||
| Variable Costs( M) | 8000 | 48 | 384000 | 384000 | 384000 | 384000 |
| (N) | 7000 | 55 | 385000 | 385000 | 385000 | 385000 |
| Total Expenses | 988000 | 988000 | 988000 | 988000 | ||
| Net Profit | 422000 | 242000 | 242000 | 242000 |
- Discuss the potential ethical conflicts that could result from the timing of the loss and
expense recognition reported in the two income statements.
The reduced income from the two statements would raise some questions concerning the differences in income statements. The first statement which assumes the old machine would have a reduced income of 36,000 among the years as compared to the replacement with new machine. In the first year the, when the old machine is sold after it has been replaced by the new machine, its disposal will make additional income of 180,000. These will create a large income disparity between the two statements which might stir some controversies about the management’s competence.
Other than the obvious reduction in salary and wages expenses, identify some costs savings Dell might realize by reducing its workforce by 10 percent.
The company will save on other welfare expenses like medical and insurance covers for employees and also management expenses that would have been needed to manage the large labour force. Office spaces, parking lots and other staff amenities will also be saved.
Assume some of the workers being terminated are assembly employees and that they are being replaced by new robotic assembly machines. Explain how this might affect Dell’s unit-level, batch-level and facility-level costs.
The initial expenses of acquiring the robots would be high but the successive financial periods would definitely reflect a positive financial outlook as the monthly payroll would also reduce. The robotic machine would also have a standard production pattern as they would be programmed to produce a certain amount of production. The batch and facility levels would also optimized to produce at maximum capacity.
As the CFO responsible for recommending the proposed changes, explain which financial reports include relevant or irrelevant information in making your decision.
The income and expenditure would reflect the reduction in salary expenses while the Balance sheet would reflect the new assets (machinery) that’s the robotic machines.
References
Khan, M. (1993). Theory & Problems in Financial Management. Boston: McGraw Hill, Higher Education.
Vance, D. (2003) Financial analysis and decision making: tools and techniques to solve
financial problems and make effective business decisions. New York: McGraw-Hill.
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