ACTIVITY

1. Paul Company is contemplating to close the operations of the club temporarily. Due to heavy rains
brought by La Niña, the expected demand of the club was reduced, which is expected to last for six (6)
months. Assume the typical monthly operating revenues and costs of the club operations of Paul
Company:

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 40,000
period for six (6) months
Estimated restarting costs 100,000

If it continues operating, the company will be forced to reduce the membership selling price by
12.50%. a. Determine the shutdown costs.
Unavoidable fixed cost during shutdown period
(150,000 – 70,000) x 6 months 480,000
Additional cost for shutdown 40,000
Estimate restarting costs 100,000
Total shutdown costs 620,000

b. Determine the shutdown savings.

Total normal fixed cost if to operate
(150,000 x 6) 900,000

Total shutdown costs 620,000

Shutdown savings 280,000

c. Determine the shutdown point.

Shutdown point = Shutdown savings/Contribution margin per unit

= 280,000/130
= 2,153.85 or 2,154 members
 d. If the demand of the club is 3,600 memberships, should the company shut down or continue
operations? Justify your answer.
Result of continue operations 1,260,000
Sales (3,600 x P 350)
Variable Cost (3,600 x P 270)
Contribution Margin
Fixed Costs
Net Loss from continued operations 620,000
Total shutdown costs
Advantages of Continue Operations 8,000

2. ABC Company uses a joint process to produce products A, B, and C. The joint production costs for 201A
were 500,000 and were allocated using relative sales value at the split-off point method.

Each product may be sold at its split-off point or processed further. Additional processing costs are
entirely variable.

Additional
Sales Value at Final Sales
Products Processing Split-off Value
Costs
A P300,000 P130,000 420,000
B 120,000 100,000 230,000
250,000 400,000
P670,000 P1,050,000

a. To maximize profit, which product/s should be sold at split-off point and be processed further,
respectively?
PRODUCT A PRODUCT B PRODUCT C
Final Sales Value 420,000 230,000 400,000
Sales value of spin-of 300,000 120,000 250,000
Increase in sales value 120,000 110,000 150,000
Additional costs 130,000 100,000 140,000
Differential Income -10,000 10,000 10,000

To be able to maximize the profit, both product B and C should be processed further while the
product A should be sold at split-off

b. If the alternative were to sell at split-off point or to process further all products, which
alternative would be recommended?

To process it further, it is better to be alternative because the total differential income for all the
product is P 10,000
3. Maxwell Company manufactures and sells three (3) product lines with contribution margin per unit
and the required production time as follows:
CM per Machine hour per
unit unit of product
Product A P5.00 2.5 hours
Product B 3.00 3 hours
Product C 4.00 1 hour

The company has a capacity of 20,000 machine hours a month. The market can absorb P4,000 units of
product A, 6,000 units of B, and 10,000 units of C.

a. Determine the contribution margin per hour of each product.

CM per unit Machine CM per machine Ranking
hour
Product A P 5.00 2.5 2 2nd

Product B 3.00 3 1 3rd

Product C 4.00 1 4 1st

b. What is the most profitable product line based on the contribution margin per machine hour?
Justify your answer.

The most profitable product is the product C that is based on the contribution margin per
machine hour.

c. Compute the maximum contribution margin for the month that will meet the conditions
stated.

Units of product Machine hour (MH CM per machine Total CM

x units of product) hour
Product A 10,000 10,000 4 40,000
Product B 4,000 10,000 2 20,000
Product C 0 0 1 0
14,000 20,000 60,000
 4. Trask Industries, Inc. is considering replacing its old machine with a book value of P150,000 and still
has a remaining useful life of three (3) years. The old machine will be replaced with a new one that will
cost P375,000, with a three-year useful life and no salvage value.

The annual operating costs of the old machine amount to P180,000, which can be reduced by 55% if a
new machine is acquired. The old machine will have no disposal value after three (3) years but can be
disposed of now at P60,000.

a. Ignoring the time value of money and income taxes, determine the differential cost.

• Differential Costs
Cost of new machine P 375,000
Add: Operating costs (180,000 x 45% x3) P 243,000
Less: Disposal value of old machine P (60,000)
Total relevant cost to replace P 558,000
Total relevant cost to retain (180,000 x 3) P 540,000
Differential Costs P18,000

Should the machine be retained or replaced?

The old should be retained with the new equipment since the total relevant cost replace is higher than the
total relevant costs if the old machine is retained.