- 15 Marks
Question
Zumah Ltd manufactures and sells two complementary products: Hyline and Glycerin in the ratio 3:2. The result for the just ended period showed the following:
| Product | Hyline | Glycerin |
|---|---|---|
| Selling price (GH¢) | 20 | 15 |
| Contribution/sales ratio | 60% | 40% |
| Profit/ (loss) (GH¢) | 97,200 | (3,600) |
Joint fixed costs of GH¢180,000 are apportioned in proportion to the number of units of each product sold.
The company is in the process of preparing the budget for the coming year and is desirous of improving the performance of Glycerin. Therefore, the following proposals are being considered for implementation:
- Increase the price of Glycerin by 25% in expectation that the quantity demanded will reduce by 10%; or
- Retool the production process, which will result in a reduction of joint fixed costs by 15% and an increase in variable costs of each product by 10%; or
- Introduce proposals 1 and 2.
Required:
a) Determine the units of each product sold, and hence, prepare the profit statement for the just ended period.
b) Advise the management of Zumah Ltd as to which proposal to implement with a view to optimizing profits.
Answer
a) Determination of units sold and profit statement for the just-ended period:
Units Sold:
Let the total units sold be X.
| Product | Hyline | Glycerin |
|---|---|---|
| Contribution/unit (GH¢) | 12 | 6 |
| Contribution: 60% of GH¢20 (Hyline) | 12X | |
| Contribution: 40% of GH¢15 (Glycerin) | 6X | |
| Total Contribution (GH¢) | 9.60X | |
| Fixed Costs (GH¢) | 180,000 | |
| Profit (GH¢) | 93,600 |
To find the total units sold:
9.60X−180,000=93,6009.60X – 180,000 = 93,600
X=28,500 unitsX = 28,500 \text{ units}
Thus:
- Hyline units = 17,100 (60% of 28,500)
- Glycerin units = 11,400 (40% of 28,500)
Profit Statement:
| Product | Hyline | Glycerin |
|---|---|---|
| Contribution (GH¢) | 205,200 (17,100 units @ GH¢12) | 68,400 (11,400 units @ GH¢6) |
| Total Contribution (GH¢) | 273,600 | |
| Fixed Costs (GH¢) | (180,000) | |
| Profit (GH¢) | 93,600 |
(7 marks)
b) Evaluation of proposals and recommendation:
Proposal 1: Increase the price of Glycerin by 25%
| Product | Hyline | Glycerin |
|---|---|---|
| Selling price (GH¢) | 20 | 18.75 |
| Variable cost/unit (GH¢) | (8) | (11.25) |
| Contribution/unit (GH¢) | 12 | 7.50 |
Profit Statement:
| Product | Hyline | Glycerin |
|---|---|---|
| Contribution (GH¢) | 184,680 (15,390 units @ GH¢12) | 76,950 (10,260 units @ GH¢7.50) |
| Total Contribution (GH¢) | 261,630 | |
| Fixed Costs (GH¢) | (180,000) | |
| Profit (GH¢) | 81,630 |
(3 marks)
Proposal 2: Retool production to reduce joint fixed costs by 15% and increase variable costs by 10%
| Product | Hyline | Glycerin |
|---|---|---|
| Selling price (GH¢) | 20 | 15 |
| Variable cost/unit (GH¢) | (8.8) | (9.9) |
| Contribution/unit (GH¢) | 11.20 | 5.10 |
Profit Statement:
| Product | Hyline | Glycerin |
|---|---|---|
| Contribution (GH¢) | 191,520 (17,100 units @ GH¢11.20) | 58,140 (11,400 units @ GH¢5.10) |
| Total Contribution (GH¢) | 249,660 | |
| Fixed Costs (GH¢) | (153,000) (180,000 x 0.85) | |
| Profit (GH¢) | 96,660 |
(3 marks)
Proposal 3: Implement both Proposals 1 and 2
| Product | Hyline | Glycerin |
|---|---|---|
| Selling price (GH¢) | 20 | 18.75 |
| Variable cost/unit (GH¢) | (8.8) | (9.90) |
| Contribution/unit (GH¢) | 11.20 | 8.85 |
Profit Statement:
| Product | Hyline | Glycerin |
|---|---|---|
| Contribution (GH¢) | 172,368 (15,390 units @ GH¢11.20) | 90,801 (10,260 units @ GH¢8.85) |
| Total Contribution (GH¢) | 263,169 | |
| Fixed Costs (GH¢) | (153,000) | |
| Profit (GH¢) | 110,169 |
Recommendation:
Implementing Proposal 3, which combines both proposals, would yield the highest incremental profit of GH¢16,569 compared to the current profit level.
(2 marks)
(Total: 15 marks)
- Tags: Contribution margin, CVP Analysis, Fixed Costs, Profit Optimization, Sensitivity Analysis
- Level: Level 2
- Topic: Cost-Volume-Profit (CVP) Analysis
- Series: NOV 2017
- Uploader: Dotse