b. Review the information in Exhibit 7-6 and on page 371. Calculate the cost per cut assuming the cutting tool is purchased
Business & ManagementOperationsWorked Solution
Chad Davis, C&C Sports' vice president for operations, recently received a sales brochure for a new electric cutting tool. Based on the tool's specifications, Chad believes that C&C Sports could increase the batch size on jersey production to 50 jerseys, up from the current 35 jerseys. While the cutting tool would be used on pants and award jackets as well, other production factors prevent increasing the batch sizes for these products.
The new tool would increase annual operating costs by $14,082. Before deciding whether to purchase the cutting tool, Chad wants to know how the new tool will affect the cost of producing the company's three products.
Required
a. Review the information in Exhibit 7-5. Calculate the total annual cost included in the cutting activity cost pool assuming the cutting tool is purchased.
b. Review the information in Exhibit 7-6 and on page 371. Calculate the cost per cut assuming the cutting tool is purchased.
c. Review the information in Exhibit 7-6. Identify any other activity rates that will be affected by the purchase of the new cutting tool.
d. Explain to Chad why unit costs for all three products will change after the purchase of the new cutting tool.
e. Do you recommend that Chad purchase the new cutting tool? Why or why not?
SOLUTION
a. Total cutting overhead cost pool = $147,108 + $14,082 = $161,190
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b. First, calculate number of batches
Budgeted production
÷
Units per batch
=
Number of batches
Pants
183,500
÷
50
=
3,670
Jerseys
66,500
÷
50
=
1,330
Jackets
18,000
÷
5
=
3,600
8,600
Second, calculate number of cuts
Batches
×
Cuts per batch
=
Total cuts
Pants
3,670
×
4
=
14,680
Jerseys
1,330
×
5
=
6,650
Jackets
3,600
×
9
=
32,400
53,730
Cost per cut = = $3/cut
c.Warehousing and packaging costs will be affected because the number of batches will be reduced. This change will result in more warehousing cost being allocated to pants and jackets since the number of jersey batches will be reduced. Any variable costs associated with warehousing will be reduced since the number of batches will be reduced.
d. Unit cost will change for two reasons. The total cost for cutting increased; therefore unit costs are expected to increase. However, the new tool allows for more efficient production of jerseys, reducing the total number of cuts. Therefore, a smaller share of cutting costs will be allocated to jerseys, resulting in a greater share being borne by pants and jackets.
As indicated in part c above, reducing batches of jerseys without reducing warehousing costs results in greater costs allocated to both pants and jackets.
Without reducing specific costs, the new tool will reduce the unit cost per jersey and increase the unit cost per pant and jacket.
e. Chad does not have enough information to justify purchasing the tool. Without knowing the costs that can be eliminated or the non-value-added activities that can be eliminated, the purchase of the tool appears to increase total costs to the company.