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Chapter 25: 8SE (page 1409)

Heavenly Dessert processes cocoa beans into cocoa powder at a processing cost of \(9,700 per batch. Heavenly Dessert can sell the cocoa powder as is, or it can process the cocoa powder further into either chocolate syrup or boxed assorted chocolates. Once processed, each batch of cocoa beans would result in the following sales revenue:

Cocoa powder \)14,500

Chocolate syrup 103,000

Boxed assorted chocolates 204,000

The cost of transforming the cocoa powder into chocolate syrup would be \(72,000. Likewise, the company would incur a cost of \)183,000 to transform the cocoa powder into boxed assorted chocolates. The company president has decided to make assorted boxed chocolates due to their high sales value and to the fact that the cocoa bean processing cost of $9,700 eats up most of the cocoa powder profits. Has the president made the right or wrong decision? Explain your answer. Be sure to include the correct financial analysis in your response.

Short Answer

Expert verified

The president鈥檚decision of making boxed assorted chocolatesis wrong.

Step by step solution

01

Meaning of Financial Analysis

Financial analysis refers to a technique used by business entities to determine the benefits of choosing a particular item amongst the available alternatives. Such an analysis considers thecost and revenue associated with a particular set of data.

02

Preparation of financial analysis

Particulars

Chocolate syrup

Boxed assorted chocolate

Processed sales revenue

$103,000

$204,000

Less: Sales revenue of cocoa powder

($14,500)

($14,500)

Revenue generated

$88,500

$189,500

Less: Processing cost

($72,000)

($183,000)

Income

$16,500

$6,500

03

Comment on the president’s decision  

According to the financial analysis shown above, the decision made by the president to make boxed assorted chocolates is not correct.

If the president wants to maximize profits, then he shouldshift his focus to chocolate syrup instead of boxed assorted chocolates.

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Most popular questions from this chapter

Green Thumb operates a commercial plant nursery, where it propagates plants for garden centers throughout the region. Green Thumb has \(5,300,000 in assets. Its yearly fixed costs are \)625,000, and the variable costs for the potting soil, container, label, seedling, and labor for each gallon-size plant total \(1.70. Green Thumb鈥檚 volume is currently 490,000 units. Competitors offer the same plants, at the same quality, to garden centers for \)4.00 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鈥檚 owners want to earn an 10% return on the company鈥檚 assets. What is Green Thumb鈥檚 target full product cost?

2. Given Green Thumb鈥檚 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 \(1.55 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. Green Thumb does not expect volume to be affected, but it hopes to gain more control over pricing. If Green Thumb has to spend \)135,000 this year to advertise and its variable costs continue to be $1.55 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?

Brik, located in San Antonio, Texas, produces two lines of electric toothbrushes: deluxe and standard. Because Brik can sell all the toothbrushes it can produce, the owners are expanding the plant. They are deciding which product line to emphasize. To make this decision, they assemble the following data:

Per Unit

Deluxe Toothbrush Standard Toothbrush

Sales price \(88 \)54

Variable expense 22 18

Contribution margin \(66 \)36

Contribution margin ratio 75.0% 66.7%

After expansion, the factory will have a production capacity of 4,900 machine hours per month. The plant can manufacture 65 standard electric toothbrushes or 27 deluxe electric toothbrushes per machine hour.

Requirements

1. Identify the constraining factor for Brik.

2. Prepare an analysis to show which product line the company should emphasize.

Elm Petroleum has spent \(204,000 to refine 61,000 gallons of petroleum distillate, which can be sold for \)6.30 per gallon. Alternatively, Elm can process the distillate further and produce 58,000 gallons of cleaner fluid. The additional processing will cost \(1.80 per gallon of distillate. The cleaner fluid can be sold for \)9.10 per gallon. To sell the cleaner fluid, Elm must pay a sales commission of \(0.10 per gallon and a transportation charge of \)0.16 per gallon.

Requirements

1. Diagram Elm鈥檚 decision alternatives, using Exhibit 25-18 as a guide.

2. Identify the sunk cost. Is the sunk cost relevant to Elm鈥檚 decision?

3. Should Elm sell the petroleum distillate or process it into cleaner fluid? Show the expected net revenue difference between the two alternatives.

Refer to Exercise E25-13. Assume that Video Avenue can avoid $39,000 of direct fixed costs by dropping the DVD product line. Prepare a differential analysis to show whether Video Avenue should stop selling DVDs.

Members of the board of directors of Security Check have received the following operating income data for the year ended May 31, 2018:

SECURITY CHECK

Income Statement

For the Year Ended May 31, 2018

Product Line

Industrial Systems

Household Systems

Total

Net Sales Revenue

\( 360,000

\) 380,000

\( 740,000

Cost of Goods Sold:

Variable

37,000

47,000

84,000

Fixed

260,000

63,000

323,000

Total Cost of Goods Sold

297,000

110,000

407,000

Gross Pro铿乼

63,000

270,000

333,000

Selling and Administrative Expenses:

Variable

64,000

73,000

137,000

Fixed

44,000

26,000

70,000

Total Selling and Administrative Expenses

108,000

99,000

207,000

Operating Income (Loss)

\) (45,000)

\( 171,000

\) 126,000

Members of the board are surprised that the industrial systems product line is not profitable. 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 \(80,000 and decrease fixed selling and administrative expenses by \)12,000.

Requirements

1. Prepare a differential analysis to show whether Security Check should drop the industrial systems product line.

2. Prepare contribution margin income statements to show Security Check鈥檚 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鈥� income numbers to your answer to Requirement 1.

3. What have you learned from the comparison in Requirement 2?
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