MA Tutorial 2

Questions:

2.10 Distinguish between fixed costs and variable costs.

Ans:

Fixed costs is the costs that remain unchanged when activity changes, and variable costs is the
production costs that change when production levels change.

2.15 List three direct costs of the food and beverage department in a hotel. List three indirect costs
of the department.

Ans:

Direct costs of department:

Indirect costs of department:

2.18 Distinguish between out-of-pocket costs and opportunity costs.

Ans:

Out of pocket costs is cash paid for the expenses, which are related to business or for personal.
Opportunity costs is the potential benefit that you give up when one alternative is selected over
another.

2.19 Define the terms sunk cost and differential cost.

Ans:

Sunk costs is the costs that had been incurred in the past will not change by any decision made now
or in the future. Differential costs is the costs that differ between alternatives.

2.20 Distinguish between marginal and average costs.

Ans:

Marginal costs is the extra costs incurred to produce one additional unit. Average costs is the total
costs to produce a quantity divided by the quantity produced.
2.23 Indicate whether each of the following costs is a direct cost or an indirect cost of the
restaurant in a hotel.

a. Cost of food served. (direct costs)

b. Chef’s salary and fringe benefits. (direct costs)

c. Part of the cost of maintaining the grounds around the hotel, which is allocated to the
restaurant. (indirect costs)

d. Part of the cost of advertising the hotel, which is allocated to the restaurant. (indirect cost)

Exercises:

2.25 For each case below, find the missing amount.

Case I Case II Case III

Beginning inventory of finished goods ............................ 21000 $ 18,000 $ 3,500

Cost of goods manufactured during period .................... $104,750 142,500 159000

Ending inventory of finished goods ............................. 24,500 12,000 10,500

Cost of goods sold .................................................. 101,250 148500 152,000

2.32 A hotel pays the phone company $200 per month plus $.15 for each call made. During
January 7,000 calls were made. In February 8,000 calls were made.

Required:

1. Calculate the hotel’s phone bills for January and February.

2. Calculate the cost per phone call in January and in February.

3. Separate the January phone bill into its fixed and variable components.

4. What is the marginal cost of one additional phone call in January?

5. What was the average cost of a phone call in January?

Ans:

1. Phone bill in January: $200+($0.15x7000) = $1250

2.Cost per phone in January: $1250/7000 = $0.179 per unit

3. fixed: $200 variable: $0.15x7000 = $1050

4. $0.15
5. $1250/7000 = $0.18

Problems:

2.46 Scranton Refrigeration Corporation began operations at the beginning of the current year.
One of the company’s products, a compressor, sells for $370 per unit. Information related to the
current year’s activities follows.

Variable costs per unit:

Direct material .......................................................................................................................... $

Direct labor ................................................................................................................................. 74

Manufacturing overhead ............................................................................................................. 96

Annual fixed costs:

Manufacturing overhead ................................................................................................$1,200,000

Selling and administrative ................................................................................................ 1,720,000

Sales and production activity:

Sales (units) ..........................................................................................................................20,000

Production (units) ................................................................................................................. 24,000

Scranton Refrigeration carries its finished-goods inventory at the average unit cost of production
and is subject to a 40% income tax rate. There was no work in process at year-end.

Required:

1. Determine the cost of the December 31 finished-goods inventory.

Ans:

Direct material + Direct labor + manufacturing overhead: 40+74+96 = $210

Manufacturing overhead/per unit: 1200000/24000 = $50

Average unit manufacturing costs: $210 + $50 = $260 per unit

Ending finished goods inventory: 24000-20000 = 4000

Costs of December 31 finished goods inventory: 4000x $260 = $1040000

2. Compute Scranton Refrigeration’s net income for the current year ended December 31.

Ans:
3. If next year’s production decreases to 22,500 units and general cost behavior patterns do not
change, what is the likely effect on:

a. The direct-labor cost of $74 per unit? Why?

b. The fixed manufacturing overhead cost of $1,200,000? Why?

c. The fixed selling and administrative cost of $1,720,000? Why?

d. The average unit cost of production? Why?

Ans:

a. direct labor costs remain unchanged because it is variable costs per unit.

b. fixed manufacturing overhead costs remain unchanged because it is total fixed costs

c. fixed selling and administrative costs remain unchanged because it is total fixed costs

d. average unit costs of production will increase because the per unit fixed manufacturing overhead
will increase when the total production is decreased. The decreased in production will be divided
with the fixed costs, which will increase the costs per unit.

2.55 Maria Chavez makes custom mooring covers for boats in Tumpa, Florida. Each mooring cover
is hand sewn to fit a particular boat. If covers are made for two or more identical boats, each
successive cover generally requires less time to make. Chavez has been approached by a local boat
dealer to make mooring covers for all of the boats sold by the dealer. Chavez has developed the
following cost schedule for mooring covers made to fit 17-foot outboard power boats.

Mooring Covers Made Total Cost of Covers

1 .................................................................... $ 675

2 .................................................................... 1,275

3 .................................................................... 1,815

4 .................................................................... 2,310

5 .................................................................... 2,775

Required: Compute the following:

1. Marginal cost of second mooring cover - $1275-$675 = $600

2. Marginal cost of fourth mooring cover - $2310-$1815 = $495

3. Marginal cost of fifth mooring cover - $2775-$2310 = $465

5. Average cost if four mooring covers are made - ($675+$1275+$1815+$2310)/4 = $1518.75

6. Average cost if five mooring covers are made - ($675+$1275+$1815+$2310+$2775)/5 = $1770

2.56 The following terms are used to describe various economic characteristics of costs.

a. Opportunity cost

b. Out-of-pocket cost

c. Sunk cost

d. Differential cost

e. Marginal cost

f. Average cost

Required: Choose one of the terms listed above to characterize each of the amounts described
below.

1. The management of a high-rise office building uses 3,100 square feet of space in the building for
its own management functions. This space could be rented for $335,000. What economic term
describes this $335,000 in lost rental revenue? (opportunity costs)

2. The cost of building an automated assembly line in a factory is $700,000. The cost of building a
manually operated assembly line is $475,000. What economic term is used to describe the
difference between these two amounts? (differential costs)

3. Referring to the preceding question, what economic term is used to describe the $700,000 cost
of building the automated assembly line? (out- of-pocket costs)

4. The cost incurred by Apple Computer to produce one more unit in its most popular line of
laptop computers. (marginal costs)

5. The cost of feeding 400 children in a public school cafeteria is $740 per day, or $1.85 per child
per day. What economic term describes this $1.85 cost? (average costs)

6. The cost of including one extra child in a day-care center. (marginal costs)

7. The cost of merchandise inventory purchased two years ago, which is now obsolete. (sunk costs)

2.58 The controller for Oneida Vineyards, Inc. has predicted the following costs at various levels of
wine output.

Wine Output (0.75 Liter Bottles)

10,000 Bottles 15,000 Bottles 20,000 Bottles

Variable production costs .......................................... $ 44,400 $ 66,600 $ 88,800

Fixed production costs ................................................ 120,000 120,000 120,000

Total .......................................................................... $212,400 $234,600 $256,800

The company’s marketing manager has predicted the following prices for the firm’s fine
wines at various levels of sales.

Wine Sales

10,000 Bottles 15,000 Bottles 20,000 Bottles

Sales price per .75 liter bottle ...................................... $21.60 $18.00 $14.40

Required:

1. Calculate the unit cost of wine production at each level of output. At what level of output is the
unit cost minimized?

Ans:

i. $212400/10000 = $21.24
ii. $234600/15000 = $15.64
iii. $256800/20000 = $12.84

20000 bottles of wine is the unit costs minimized because it has lowest costs ($12.64)

2. Calculate the company’s profit at each level of production. Assume that the company will sell all
of its output. At what production level is profit maximized?

Ans:

i. 10000 x ($21.60-$21.24) = $3600

ii. 15000 x ($18.00-$15.64) = $35400

iii. 20000 x ($14.40-$12.84) = $31200

15000 bottles of wine is the profit maximized because the profit is highest ($35400)

3. Which of the three output levels is best for the company?

Ans: 15000 bottles of wine is best for the company because it make the highest profit even though it
has the lowest unit costs.

4. Why does the unit cost of wine decrease as the output level increases? Why might the sales
price per bottle decline as sales volume increases?

Ans:

Because the fixed costs is remain unchanged. When the fixed costs is same per every unit and the
sales volume is increasing, the lower the sales prices of bottle need to be paid is decreasing.