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All work must be shown it can’t be only the answers. Section 6 1. Enola, Inc. manufactures a product that sells for $400. The variable costs per unit are: Direct materials..............................$100 Direct labor..................................$ 80 Variable manufacturing overhead.............. $ 50 Variable selling costs........................$ 20 For the coming year the budgeted fixed manufacturing overhead is estimated to be $500,000 and budgeted fixed selling and administrative costs are expected to be $250,000. Required: a. Determine the break-even point in units. Solution: Total variable cost = $100+$80+$50+$20 = $250 = VC Total fixed cost = $500,000 + $250,000 = $750,000 Suppose the break even occurs at n units. Therefore, 400n = 750,000 + 250n Or (400-250)n = 750,000 Or 150n = 750,000 Therefore, n = 750,000/150 = 5000 units b. Determine the number of units that must be sold to earn a target net income of $300,000. Solution: Since each unit sells for $400, number of units required to be sold to earn an income of $300,000 = $300,000/$400 = 750 units 2. Holbrook, Inc. has identified the following overhead costs and cost drivers for next year. Overhead.......Expected......Cost.............Expected Item.............Cost.......Driver............Quantity ------------------------------------------------------ Setup costs....$960,000..Number of setups.......4,800 Ordering costs..160,000..Number of orders......20,000 Maintenance.....640,000..Machine hours.........64,000 Power............80,000..Kilowatt hours...... 200,000 The following are two of the jobs completed during the year. Job 701 Job 702 Prime costs..............$25,000........$18,000 Units completed..............650............500 Direct labor hours...........180............220 Number of setups..............12.............15 Number of orders..............16.............30 1 Machine hours................360............300 Kilowatt hours...............180............650 The company’s normal activity is 40,000 direct labor hours. Required: a. Determine the unit cost for each job using direct labor hours to supply overhead. (That is overhead rate is based on direct labor hours.) b. Determine the unit cost for each job using the four cost drivers. (Round amounts to 2 decimal places.) (That is there are four overhead rates: setups, orders, maintenance and power.) c. Which method produces the more accurate cost assignment? Why? 3. Brentwood Associates uses a job-order costing and applies overhead on the basis of direct labor hours. At the beginning of the year, management estimated that 26,000 direct labor hours would be worked and $1,300,000 of manufacturing overhead costs would be incurred. During the year, the company actually worked 24,000 direct labor hours and incurred the following manufacturing costs: Direct materials used in production.....$1,240,000 Direct labor.............................1,800,000 Indirect labor.............................280,000 Indirect materials.........................220,000 Insurance..................................150,000 Utilities..................................190,000 Repairs & maintenance......................180,000 Depreciation...............................320,000 (Note: So actual overhead is $1,340,000) Required: a. Calculate the predetermined overhead application rate (Dollars per Direct Labor Hour) for the year. Solution: The predetermined overhead application rate = $1,300,000/ 26000 direct labor hours = $50 per direct labor hour Determine the amount (in dollars) of manufacturing overhead applied to work in process during the year. Solution: Overhead applied = predetermined overhead application rate *Actual activity = $50*24,000 = $1,200,000 Determine the amount (in dollars) of underapplied or overapplied overhead for the year. Solution: Underapplied overhead = $1,340,000 - $1,200,000 = $140,000 Section 7 4. Phil Goode will receive $175,000 in 50 years. (That is at the end of 50 year from today Phi will receive a lump sum of $175,000). His 2 friends are very jealous of him. If the funds are discounted back at a rate of 14 percent, what is the present value (in dollars) of his future “pot of gold”? (Note: Your answer is less than $175,000.) n r Solution: Assuming interest is compounded yearly, P = A1 100 50 14 = 175,0001 175,000(1.14) 50 $250approx ……………Ans 100 5. If employer offered to set aside $2,500 a year for you for the next 20 years, how much (in dollars) would you have in your account after 20 years if the funds grew at 8 percent? (Note: Your answer is greater than $2,500.) Solution: Assuming compound interest, Amount after 1’st year, A1 P1 0.08 P(1.08) Principal for second year = P P(1.08) P(1 1.08) Amount after 2’nd year, A2 P1 1.08 1.08 P(1.08 1.08 ) 2 Principal for 3rd year = P P(1 1.08 )(1.08 ) P(1 1.08 1.08 ) 2 Amount after 3’rd year, A3 P 1 1.08 1.08 2 1.08 P(1.08 1.08 2 1.08 3 ) ……………… Therefore, Amount after 20th year, A20 P (1.08 1.08 ..... 1.08 2 20 ) Sum of a Geometric Progression is given as 1.0820 1 Therefore, A20 1.08 1 = $123557.30 2500 *1.08 * 6. Madison Corporation has a $1,000 par value bond outstanding paying annual interest of 7%. The bond matures in 20 years. If the present yield to maturity for this bond is 9%, calculate the current price of the bond (in dollars) using annual compounding. (That is interest is paid annually.) (Note: Your answer is less than $1,000.) Section 8 7. The Taylor Corporation is using a machine that originally cost $88,000. The machine is being depreciated by the straight-line method over 8 years ($11,000 per year). The machine has a book value of $66,000 and a current market value of $40,000. Assume the machine is sold at the current market value of $40,000. Jack Elliott, the Chief Financial Officer of Taylor, is considering replacing this machine with a newer model costing $75,000. The new machine will save $7,000 in after-tax earnings each year for the next six years. The new machine is 3 in the 5-year MACRS category. Taylor Corporation is in the 34% tax bracket. What is the cash inflow (in dollars) from the sale of the old machine? (Note: You do not have to calculate depreciation expense.) (Hint: 1. Calculate the gain or loss on sale. 2. Calculate the tax saving or tax expense. 3. Calculate the cash inflow or outflow on the sale. 8. The Knight Manufacturing Company is evaluation a capital investment project requires an investment of $1,000,000. It has an expected life of five years with annual cash flows of $240,000 received at the end of each year. Assume the residual value is zero. Required: a. Compute payback (in number of years) for the project. Solution: Year Cash Flow Net Cash Flow 0 -1,000,000 -1,000,000 1 240,000 -760,000 2 240,000 -520,000 3 240,000 -280,000 4 240,000 -40,000 5 240,000 200,000 Payback Period = Last year with a negative NCF + Absolute value of NCF in that year/Total Cash flow in the following year = 4 + 40,000/240,000 = 4.167 years……..Ans b. Compute the net present value (in dollars) of the project using a 12 percent discount rate. Ignore income taxes. n valuej Solution: NPV = 1 rate j 1 j =NPV(0.12,- 1000000,240000,240000,240000,240000,240000) in Excel. = -$120,405.10……..Ans d. Would you recommend this project be accepted? Why? Solution: No, Since the NPV is negative, we should reject the project. Section 9 9. Hunter International pays a $3.80 dividend at the end of year one on its common stock that has a stock price of $50 and a constant growth rate of 4%. What is the required rate (in percentage) of return on such a common stock? D1 Solution: According to Gordon Dividend Valuation Model, P0 , Ks g Where D1 = dividends at year 1, Ks = Investor’s required rate of return, g = growth rate in dividends. From this formula, we get 4 D1 3.80 KS g 4 4.076 % …………………….Ans P0 50 10. The Harding Company manufactures skates. The company’s income statement for 2002 is as follows: Harding Company Income Statement For the Year Ended December 31, 2002 Sales (10,000 units @ $50 each) $500,000 Less: Variable costs (10,000 units @ $20) 200,000 Fixed costs 150,000 Earnings before interest and taxes 150,000 Interest expense 60,000 Earnings before taxes 90,000 Income tax expense 36,000 Earnings after taxes $ 54,000 There is no preferred stock in this Company. What is the degree of operating leverage for Harding Company? QP AVC Solution: Degree of Operating Leverage DOL = Q( P AVC ) Q( AFC ) Here Q = 10000, P = $50, AVC = $20, AFC = $150000/10000 = $15 10000 (50 20 ) 30 DOL 2 ………………Ans 10000 (50 20 ) 10000 (15 ) 15 11. Refer to the data presented in the above question, what is the degree of financial leverage for Harding Company? EBIT Solution: DFL = , where EBIT = Q(P-AVC)-F, I = Interest Paid EBIT I Here EBIT = 10000(50-20) = $300,000 I = $60,000 EBIT 300000 DFL = 1.25 ………………..Ans EBIT I 300000 60000 5