The Heather Honey Company purchases honeycombs from beekeepers for $3.0 a pound. The company produces two main products from the honeycombs-honey and beeswax. Honey is drained from the honeycombs, and then the honeycombs are melted down to form cubes of beeswax. The beeswax is sold for $2.50 a pound.
The honey can be sold in raw form for $4.0 a pound. However, some of the raw honey is used by the company to make honey drop candies. The candies are packed in a decorative container and are sold in gift and specialty shops. A container of honey drop candies sells for $8.40.
Each container of honey drop candies contains three-quarters of a pound of honey. The other variable costs associated with making the candies are as follows:
|Variable manufacturing overhead||0.60|
|Total variable manufacturing cost||$3.95|
The monthly fixed manufacturing overhead costs associated with making the candies follow:
|Master candy maker's salary||$4,380|
|Depreciation of candy-making equipment||600|
|Total fixed manufacturing cost||$4,980|
The master candy maker has no duties other than to oversee production of the honey drop candies. The candy-making equipment is special-purpose equipment that was constructed specifically to make this particular candy. The equipment has no resale value and does not wear out through use.
A salesperson is paid $2,212 per month plus a commission of 5% of sales to market the honey drop candies.
The company had enjoyed robust sales of the candies for several years, but the recent entrance of a competing product into the marketplace has depressed sales of the candies. The management of the company is now wondering whether it would be more profitable to sell all of the honey rather than converting some of it into candies. Required:
1. What is the incremental contribution margin per container from further processing the honey into candies?
2. What is the minimum number of containers of candy that must be sold each month to justify the continued processing of honey into candies?
Calculating Incremental Contribution Margin:
To calculate the incremental contribution margin earned from processing a product further, the incremental sales revenue and the incremental processing cost should be used.
Answer and Explanation:
1. The incremental contribution margin is:
|Sales revenue per container||$8.40|
|Sales revenue for 0.75 pounds of raw honey||(3.00)
($4.00 x 0.75)
|Incremental sales revenue||$5.40|
|Incremental variable costs:|
|Incremental variable manufacturing costs||(3.95)|
|Incremental variable selling expenses||(0.42)
($8.40 x 0.05)
|Total variable cost||$(4.37)|
|Incremental contribution margin||$1.03|
2. To find the indifference point, we will use the break-even formula using only the relevant (that is the avoidable) costs and the incremental contibution margin:
Break-even point in units = avoidbale fixed cost / contribution margin per unit
= $4,380 + $2,212 = $6,260 / $1.03
= 6,400 units
Learn more about this topic:
from Accounting 301: Applied Managerial AccountingChapter 9 / Lesson 12