# Costs for Decision Making Assignment

Accounting Assignment 7

TOPIC: Costs for Decision Making Assignment

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PART-1

Assume that you have decided to drive your car to Florida for the spring break. A classmate learns about your plans and asks about riding along with you.Â Required:Â Select how you would apply each of the following cost concepts to the task of determining how much, if any, cost you would take into consideration for the purposes of setting a price to be charged for taking the classmate with you.

 A. Differential Cost B. Allocated Cost C. Sunk Cost D. Opportunity Cost

PART-2

Attending college involves incurring many costs. Select the example of a college cost that could be assigned to each of the following classifications.

 A. Sunk Cost B. Discretionary Cost C. Committed Cost D. Opportunity Cost E. Differential Cost F. Allocated Cost

PART-3

National Chemical Company manufactures a chemical compound that is sold for \$57 per gallon. A new variant of the chemical has been discovered, and if the basic compound were processed into the new variant, the selling price would be \$92 per gallon. National expects the market for the new compound variant to be 8,100 gallons initially and determines that processing costs to refine the basic compound into the new variant would be \$170,100.

Required:

a. What would be the effect on total profit if National produces the new compound variant?

b. Should National produce the new compound variant?

A.

What would be the effect on total profit ifÂ NationalÂ produces the new compound variant?

 If National produces the new compound, profit will by

B.

ShouldÂ NationalÂ produce the new compound variant?

 Should National produce the new compound variant?

PART-4

Circuit Masters Incorporated (CMI) is presently operating at 80% of capacity and manufacturing 115,000 units of a patented electronic component. The cost structure of the component is as follows:

 Raw materials \$ 7.70 per unit Direct labor 7.70 per unit Variable overhead 9.70 per unit Fixed overhead \$ 529,000 per year

An Italian firm has offered to purchase 21,700 of the components at a price of \$32.50 per unit, FOB CMI’s plant. The normal selling price is \$37.10 per component. This special order will not affect any of CMI’s “normal” business. Management calculated that the cost per component is \$29.70, so it is reluctant to accept this special order.

Required:

a. Calculate the fixed overhead per unit?

b. Is the cost calculation appropriate?

c. Should the offer from the Italian firm be accepted?

A.

B & C.

b. Is the cost calculation appropriate? c. Should the offer from the Italian firm be accepted?

 b. The cost calculation is appropriate c. The offer from the Italian firm should be

PART-5

Waterway Engine Incorporated produces engines for the watercraft industry. An outside manufacturer has offered to supply several component parts used in the engine assemblies, which are currently being produced by Waterway. The supplier will charge Waterway \$325 per engine for the set of parts. Waterwayâ€™s current costs for those part sets are direct materials, \$150; direct labor, \$90; and manufacturing overhead applied at 100% of direct labor. Variable manufacturing overhead is considered to be 20% of the total, and fixed overhead will not change if the part sets are acquired from the outside supplier.

Required:

a. What would be the net cost advantage or disadvantage if Waterway decided to purchase the parts?

b. Should Waterway Engine continue to make the part sets or accept the offer to purchase them for \$325?

 A. B. Waterway Engine Incorporated should

PART-6

Lakeside Incorporated produces a product that currently sells for \$56 per unit. Current production costs per unit include direct materials, \$15; direct labor, \$17; variable overhead, \$10; and fixed overhead, \$10. Product engineering has determined that certain production changes could refine the product quality and functionality. These new production changes would increase material and labor costs by 20% per unit.

Required:

a. What would be the incremental profit or loss if Lakeside could sell the refined version of its product for \$61 per unit?

Note: Do not round your intermediate calculations. Round your final answer to 2 decimal places. Loss amounts should be indicated with a minus sign.

b. Should it be processed further?

 A. Incremental Profit (Loss) B. Should it be processed further?

PART-7

Lakeside Incorporated is considering replacing old production equipment with state-of-the-art technology that will allow production cost savings of \$10,000 per month. The new equipment will have a five-year life and cost \$420,000, with an estimated salvage value of \$30,000. Lakesideâ€™s cost of capital is 12%. Lakeside Incorporated uses a straight-line depreciation method.

### Required:

Calculate the payback period and the accounting rate of return for the new production equipment.

 Payback Period Years Accounting rate of return %

PART-8

Lakeside Incorporated is considering replacing old production equipment with state-of-the-art technology that will allow production cost savings of \$5,000 per month. The new equipment will have a five-year life and cost \$210,000, with an estimated salvage value of \$30,000. Lakesideâ€™s cost of capital is 8%.Â Â Table 6-4Â andÂ Â Table 6-5.

### Required:

Calculate the net present value of the new production equipment.

Note: Use appropriate factor(s) from the tables provided. Round the PV factors to 4 decimals. Round your final answer to nearest whole dollars.

 Net Present value

PART-9

Jinny Buffett recently retired as a flight attendant and is interested in opening a fitness center and health spa exclusively for women in Grand Cayman, where she resides. After careful study, she is somewhat puzzled as to how to proceed. In her words, “I see my business going in one of two directions: Either I open the fitness center and health spa all at once, or I start with the health spa and hold off on the fitness center for a while. Either way, it should be a success because women on this island love to be pampered. My only concern about the fitness center is the initial cost, but if the projections look good enough, I know some investors in Phoenix who can help me get started. In any event, I plan to retire permanently in 11 years.”Â Â Table 6-4Â Â andÂ Â Table 6-5Â .

Note: Use appropriate factor(s) from the tables provided. Round the PV factors to 4 decimals.

The following information is available:

Â· Jinny has identified a suitable location for her business in a new shopping center in George Town, capital of the Cayman Islands. The developer has units of 1,250 square feet and 4,000 square feet available and is willing to sell either unit for CI\$150 per square foot (CI\$1.00 = US\$1.25). Alternatively, the space can be leased at a cost of CI\$1.80 per square foot per month, on an annual basis.

Â· Commercial real estate values have more than doubled in Grand Cayman during the past 11 years, with no slowdown in sight. As a result, Jinny is more attracted to the purchase option because she expects the price per square foot to be CI\$450 by the time she is ready to sell her unit in 11 years.

Â· Exercise machines and other equipment necessary to open the fitness center would cost US\$52,000. In addition, US\$27,000 would need to be invested in equipment related to the health spa. The useful life for all such equipment is 11 years, and the expected salvage value is not large enough to be concerned about.

Â· In addition, US\$9,500 would need to be invested in an inventory of cosmetics and skin care products necessary to operate the health spa. This level of inventory would need to be maintained throughout the 11-year period and will be given away to loyal customers when Jinny retires permanently.

Â· The health spa can be operated in the 1,250-square-foot unit. Variable operating costs would include CI\$0.20 per square foot per month for cleaning and CI\$0.40 per square foot per month for utilities. The 4,000-square-foot unit is large enough to operate both the fitness center and health spa, and the CI\$0.20 rate per square foot for cleaning would not change. However, if the 4,000-square-foot unit were used, the health spa would be located in an open loft that would need to be air-conditioned at all times. As a result, utility costs are expected to be CI\$0.60 per square foot per month under this option.

Â· Jinny is a certified aesthetician and expects to do most of the makeovers, facials, and peels herself, but she needs a qualified assistant for the health spa. She estimates that hiring an appropriate person will cost US\$24,000 per year. Likewise, for the fitness center, two full-time aerobics instructors would be hired for US\$19,000 each per year, and a physical trainer would be hired for US\$30,000 per year.

Â· Additional fixed costs include US\$3,500 per year for advertising and US\$4,900 per year for maintenance, insurance, and other items. These costs will be incurred without respect to the size of operations.

Â· Annual membership fees to the fitness center will be CI\$400, and a preliminary market survey shows a demand of approximately 600 initial members. Although members tend to come and go, the net change in membership from year to year is not expected to be significant. No additional fees will be charged to fitness center members.

Â· Health spa fees are assessed on a user basis, although the steam room facilities are available at no charge to fitness center members. The net cash inflow from cosmetics and skin care products (after deducting the cost of inventory used and sold) is expected to be CI\$6,500 per month.

Â· Jinny’s cost of capital is 10%, and there are no taxes in the Cayman Islands.

Required:

a. Calculate the net present value in US\$ of an investment in the health spaÂ Â only,Â assuming that the 1,250-square-foot unit is purchased and then resold at the end of 11 years. (Â Hint:Â Before making your present value calculations, multiply all amounts expressed in CI\$ by \$1.25 to convert into US\$.)

b. Calculate the net present value in US\$ of an investment in the fitness center and health spa, assuming that the 4,000-square-foot unit is purchased and then resold at the end of 11 years.

c. Jinny is quite concerned about possible forecasting errors and has asked you to prepare a more conservative estimate. Repeat partÂ Â b, assuming that the fitness center attracts only 400 members per year (rather than 600); that the net cash inflow per month from cosmetics and skin care products is only CI\$4,500 per month (rather than CI\$6,500 per month); and that commercial real estate values in Grand Cayman at the end of 11 years are only CI\$200 per square foot (rather than CI\$450 per square foot)

d. Choose why it might be in Jinny’s best interest to lease (rather than purchase) the 1,250-square-foot unit if she initially decides to open the health spa only. Although no calculations are required, you should consider both quantitative and qualitative factors in your response.

A.

Calculate the net present value in US\$ of an investment in the health spaÂ Â only,Â assuming that the 1,250-square-foot unit is purchased and then resold at the end of 11 years. (Â Hint:Â Before making your present value calculations, multiply all amounts expressed in CI\$ by \$1.25 to convert into US\$.)

 Net present value

B.

Calculate the net present value in US\$ of an investment in the fitness center and health spa, assuming that the 4,000-square-foot unit is purchased and then resold at the end of 11 years.

 Net present value

C.

Jinny is quite concerned about possible forecasting errors and has asked you to prepare a more conservative estimate. Repeat partÂ Â b, assuming that the fitness center attracts only 400 members per year (rather than 600); that the net cash inflow per month from cosmetics and skin care products is only CI\$4,500 per month (rather than CI\$6,500 per month); and that commercial real estate values in Grand Cayman at the end of 11 years are only CI\$200 per square foot (rather than CI\$450 per square foot) Note: Do not round intermediate calculations. Negative amounts should be indicated by a minus sign.

 Net present value

D.

Choose why it might be in Jinny’s best interest to lease (rather than purchase) the 1,250-square-foot unit if she initially decides to open the health spa only. Although no calculations are required, you should consider both quantitative and qualitative factors in your response. Note: Select all that apply

 By leasing, her initial investment cost would be reduced to only US\$36,500 because the real estate cost of CI\$187,500 would be eliminated. This would allow her to get started with less business risk and she would maintain flexibility in terms of her desire to open the fitness center / health spa in one location in the future.checkbox unchecked1 of 4 By leasing on an annual basis, she will have plenty of time to search for the most suitable location for the combined business, and will not face the possibility of having to run her business out of two locations.checkbox unchecked2 of 4 Leasing will give her ownership rights.checkbox unchecked3 of 4 Leasing will increase the profitability of health spa.checkbox unchecked4 of 4

PART-10

TopCap Company is evaluating the purchase of another sewing machine that will be used to manufacture sport caps. The invoice price of the machine is \$120,500. In addition, delivery and installation costs will total \$5,000. The machine has the capacity to produce 12,000 dozen caps per year. Sales are forecast to increase gradually, and production volumes for each of the five years of the machine’s life are expected to be as follows: UseÂ Â Table 6-4Â .

Note: Use appropriate factor(s) from the tables provided. Round the PV factors to 4 decimals.

 2022 3,600 dozen 2023 5,600 dozen 2024 8,500 dozen 2025 11,300 dozen 2026 12,000 dozen

The caps have a contribution margin of \$10.00 per dozen. Fixed costs associated with the additional production (other than depreciation expense) will be negligible. Salvage value and the investment in working capital should be ignored. TopCap Company’s cost of capital for this capacity expansion has been set at 6%.

Required:

a. Calculate the net present value of the proposed investment in the new sewing machine.

b. Calculate the present value ratio of the investment.

c. What is the internal rate of return of this investment relative to the cost of capital?

d. Calculate the payback period of the investment.

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