Jesselyn Solomon BSBA OM 301A

Instructions: Read and analyze the situations given below. Answer the following questions
on a separate sheet of paper. Show your computations. (13 items x 5 points)

An airline company flies domestic routes between Manila and the various cities in the
Philippines. The airline serves meals to all passengers as part of their package service. The
cost of one (1) complete meal is provided below.
Variable costs:
Direct materials P6.00
Direct labor 4.00
Variable overhead 4.00
Fixed costs:
Supervisory salaries 4.00
Depreciation of kitchen equipment 7.00
Total cost per meal P25.00

A catering service has offered to supply the meals for P20.00 each. Assume further that
P1.00 of the fixed costs could be avoided. The fixed cost per unit was computed using the
normal operations of 2,000 meals per month.
1.Determine the relevant/differential costs.

Variable costs: Cost to make Cost to buy Difference

Direct materials P6.00
Direct labor 4.00
4.00
Variable overhead
14.00 20.00 6.00
Fixed costs:
Supervisory salaries 4.00 3.00 1.00
Relevant cost per unit 18.00 23.00 5.00

2. Should the company make or buy meals?

 Since making the meal costs less than buying it, the airline should choose to do so.

Assume that a Hong Kong tourist agency approached the president of the airline about
flying chartered tourist flights from Manila to Hong Kong. The tourist agency has offered the
airline P180,000 per round-trip flight on a jumbo jet. Given the airline’s usual occupancy rate
and airfares, a round-trip jumbo jet generates revenue of P270,000.

Sales Revenues:
Passenger P270,000

Cargo 40,000 P310,000

Variable Costs 120,000

Fixed Costs 100,000 220,000
Net Income 90,000
 The corporation won't incur projected P10,000 in reservations and ticketing expenses if the offer is
accepted. Additionally, there is an excess capacity to make extra units of the promotional offer.

3. Determine the relevant/differential costs.

Accept Reject
Revenue:
Sales Revenue 310,000.00 310,000.00
Offer 180,000.00
total 490,000.00 310,00.00

Costs:
Variable and Fixed 220,000.00 220,000.00
Variable Cost 120,000.00
total 340,000.00 220,000.00
NET INCOME 150,000.00 90,000.00

4. Should the offer be accepted?

 The agency’s offer should be accepted because doing so will result in a net
income of 150,000 more than rejecting it, which would result in a net income of
90,000.

The airline is presently offering its passengers to join a club that entitles them to use the club facilities. The
controller ascertained that all variable costs could be avoided if the club operations will be eliminated, including
some fixed costs:
Supervisor’s salaries P40,000
Airport fees 10,000
Depreciation on equipment 20,000
The income statement reported a net loss from this departmen:
Sales P400,000
Variable Costs:
Direct materials P140,000
Direct labor 80,000
Manufacturing overhead 50,000 270,000
Contribution margin P130,000
Fixed Costs:
Depreciation on equipment P60,000
Supervisor’s salaries 40,000
Insurance 20,000
Airport Fees 10,000
General overhead allocated 20,000 150,000
Net Income P20,000
5. Determine the direct contribution margin.

Sales P400,000
Variable Costs:
Direct materials P140,000
Direct labor 80,000
 Manufacturing overhead 50,000 270,000
Contribution margin P130,000
Fixed Costs:
Depreciation on equipment P20,000
Supervisor’s salaries 40,000
Airport Fees 10,000 70,000
Direct contribution margin P60,000

6. Should the club be continued or eliminated?

 Since the contribution margin (130,000) is greater than the total fixed costs to be
avoided, the club should continue operating (70,000)

Due to heavy rains brought by La Niña, the management of the company is contemplating
to close club operations of the airline temporarily. The expected demand for the club was
reduced, which is expected to last for four (4) months. Assume the typical monthly operating
revenues and costs of the club operations:
Selling price per membership P400
Variable costs per membership 270
Contribution margin 130
Fixed costs per month P150,000
Fixed costs avoided if stop operations 70,000
Additional costs during the shutdown 25,000
period for four (4) months
Estimated restarting costs 50,000
If they continue operating, the company will be forced to reduce the membership selling
price by 12.50%. The demand for the club is 4,000 memberships.
7. Shutdown costs
Unavoidable fixed costs during 525,000
shutdown period
150,000 x 4 x 87.5%
Additional Cost during shutdown period for four 25,000
months
Restarting costs 50,000
Total Shutdown Cost P600,000

8. Shutdown savings

Total normal fixed costs if to operate 600,000

150,000 x 4
Total Shutdown Costs 600,000
Shutdown Savings P0
 9. Shutdown point
 Shutdown point= Shutdown Savings/ Contribution Margin
= 0/130
Shutdown point=0

10. Net advantage of continued/shut down operations

Results of continued operations

Sales (4000 x 350) 1,400,000
Variable Cost:
Cost of Goods Sold (4000 x 270) 1,080,000
Contribution Margin 320,000
Fixed Costs 640,000
Net Loss from the Continued Operations (320,000)
Total Shutdown Costs 600,000
Advantage of Continued Operations P280,000

11. Should the club operations shut down or continue?

 The business should keep going because ceasing operations would result in a
further loss of P280,000. It is more practical for the business to continue
operations even though it will still experience a loss because demand is 4000
membership, which is higher than the shutdown point (0).

The airline has a three-year-old truck loader used to load in-light meals onto airplanes. The box on the
truck can be lifted hydraulically to the level of a jumbo jet’s side doors. The management is considering
replacing it with a new type of loader that is much cheaper than the old hydraulic loader and costs less to
operate. However, the new loader would be operable only for one (1) year before it would need to be
replaced. Data for the decision would be as follows:
Acquisition cost of the old loader P200,000
Depreciation on straight-line basis 4 years
from the time of acquisition
No salvage value
Disposal value now (Year 3) 10,000
Annual operating costs (old) 160,000
Acquisition cost of the new loader 30,000
Useful life 1 year
Annual operating costs P90,000

12. Determine the relevant/differential cost.

Cost of new machine 30,000

Add: Operating costs
(160,000x 4) 640,000
Less: Disposal Value of the old machine (10,000)
Total relevant cost to replace 660,000
Total relevant cost to retain (160,000 x 4) 640,000
Differential Cost P20,000

13. Should the old loader be retained or replaced?

 The cost to replace the old with the new loader is greater than the cost to retain, so
the airline shouldn’t do so.