Green Thumb operates a commercial plant nursery where it propagates plants for garden centers throughout the region. Green Thumb has $4,800,000 in assets. Its
yearly fixed costs are $600,000, and the variable costs for the potting soil, container, label, seedling, and labor for each gallon-size plant total $1.35. Green Thumb’s
volume is currently 470,000 units. Competitors offer the same plants, at the same quality, to garden centers for $3.60 each. Garden centers then mark them up to
sell to the public for $9 to $12, depending on the type of plant.
Requirements:
1. Green Thumb’s owners want to earn a 10% return on the company’s assets. What is Green Thumb’s target full cost?
2. Given Green Thumb’s current costs, will its owners be able to achieve their target profit?
3. Assume Green Thumb has identified ways to cut its variable costs to $1.20 per unit. What is its new target fixed cost? Will this decrease in variable costs allow the
company to achieve its target profit?
4. Green Thumb started an aggressive advertising campaign strategy to differentiate its plants from those grown by other nurseries. Monrovia Plants made this
strategy work, so Green Thumb has decided to try it too. Green Thumb does not expect volume to be affected, but it hopes to gain more control over pricing. If
Green Thumb has to spend $115,000 this year to advertise, and its variable costs continue to be $1.20 per unit, what will its cost-plus price be? Do you think Green
Thumb will be able to sell its plants to garden centers at the cost-plus price? Why or why not?
Members of the board of directors of Safe Zone has received the following operating income data for the year ended May 31, 2012:
SAFE ZONE
Income Statement
For the Year Ended May 31, 2012
Sales revenue
Cost of goods sold:
Variable
Fixed
Total cost of goods sold
Gross profit
Marketing and administrative expenses:
Variable
Fixed
Total marketing and administrative exp.
Operating income (loss)
Product Line
Industrial Household
Systems
Systems
$370,000
$390,000
Total
$760,000
36,000
260,000
$296,000
$74,000
42,000
65,000
$107,000
$283,000
78,000
325,000
$403,000
$357,000
66,000
44,000
$110,000
75,000
24,000
$99,000
$184,000
141,000
68,000
$209,000
$148,000
$(36,000)
Members of the board are surprised that the industrial systems product line is losing money. They commission a study to determine whether the company should
drop the line. Company accountants estimate that dropping industrial systems will decrease fixed cost of goods sold by $84,000 and decrease fixed marketing and
administrative expenses by $14,000.
Requirements:
1. Prepare an incremental analysis to show whether Safe Zone should drop the industrial systems product line.
2. Prepare contribution margin income statements to show Safe Zone’s total operating income under the two alternatives: (a) with the industrial systems line and
(b) without the line. Compare the difference between the two alternatives’ income numbers to your answer to Requirement 1.
3. What have you learned from the comparison in Requirement 2?
Outdoor Life manufactures snowboards. Its cost of making 2,000 bindings is as follows:
Direct materials
Direct labor
Variable overhead
Fixed overhead
Total manufacturing cost for 2,000 bindings
$17,550
3,400
2,040
6,300
$29,290
Suppose Lancaster will sell bindings to Outdoor Life for $14 each. Outdoor Life would pay $3 per unit to transport the bindings to its manufacturing plant, where
it would add its own logo at a cost of $0.70 per binding.
Requirements:
1. Outdoor Life’s accountants predict that purchasing the bindings from Lancaster will enable the company to avoide $2,100 of fixed overhead. Prepare an
analysis to show whether Outdoor Life should make or buy the bindings.
Smith Petroleum has spent $204,000 to refine 62,000 gallons of petroleum distillate, which can be sold for $6.40 a gallon. Alternatively, Smith
can process the distillate further and produce 56,000 gallons of cleaner fluid. The additional processing will cost $1.75 per gallon of distillate.
The cleaner fluid can be sold for $9.00 a gallon. To sell the cleaner fluid, Smith must pay a sales commission of $0.13 a gallon and a
transportation charge of $0.18 a gallon.
Requirements:
1. Diagram Smith’s decision alternatives.
2. Identify the sunk cost. Is the sunk cost relevant to Smith’s decision?
3. Should Smith sell the petroleum distillate or process it into cleaner fluid? Show the expected net revenue difference between the two
alternatives.
