HERRESTAD COMPANY

Herrestad Company



Herrestad Company

Introduction

The study is related to Herrestad Company which currently produces two products that are product A and product B. However, the company has an offer to produce new product with the name product C as the customer intends to buy 1,000 units from Herrestad Company. For that reason, Herrestad Company has the considerations to produce product C; however, the new customer is only willing to pay $150 per unit for product C, direct materials costs will decrease by $12 per unit and there will be no variable selling and administrative expenses, and other cost structur4e will be same as product B. Therefore, it is important and essential to evaluate the offer of customer with the selling price of $150 and also with the selling price of $140 as it will guide Herrestad Company in measuring the profitability of the company.

Expenses and Amounts for $ 150 per unit Selling Price

Total

Product A

Product B

Product C

Opening Inventory

0

Produced Units

11000

2500

7500

1000

Sold Units

9000

2000

6000

1000

Selling prices per unit

$250

460

180

150

Variable cost per unit

Direct material

100

280

40

28

Direct labor

50

50

50

50

Variable overhead

30

45

25

25

Variable administrative and selling expenses

10

13

9

0

Fixed cost

Manufacturing overhead fixed

200000

Selling and administrative fixed

100000

Production runs

100

65

35

35

Number of sales representatives

25

15

10

10

Herrestad Company

Segmented Income Statement

For the period

Total

Product A

Product B

Product C

Sales

$2000000

$920000

$1080000

150000

Variable costs:

Direct material

276000

560000

240000

$28000

Direct labor

1,000

750

500

1750

Variable overhead

1,558

2925

875

875

Variable selling and admin. exp.

26,667

26000

54000

0

Segmental Contribution

$1,234,325

$330,325

$784,625

$119,375

Not Directly Traceable

Manufacturing overhead fixed

200,000

Selling and administrative fixed

100,000

Firm wide profit with $150 per unit Selling Price

$934,325

Expenses and Amounts for $ 140 per unit Selling Price

Total

Product A

Product B

Product C

Opening Inventory

0

Produced Units

11000

2500

7500

1000

Sold Units

9000

2000

6000

1000

Selling prices per unit

$250

460

180

140

Variable cost per unit

Direct material

100

280

40

28

Direct labor

50

50

50

50

Variable overhead

30

45

25

25

Variable administrative and selling expenses

10

13

9

0

Fixed cost

Manufacturing overhead fixed

200000

Selling and administrative fixed

100000

Production runs

100

65

35

35

Number of sales representatives

25

15

10

10

Herrestad Company

Segmented Income Statement

For the period

Total

Product A

Product B

Product C

Sales

$2000000

$920000

$1080000

140000

Variable costs:

Direct material

276000

560000

240000

$28000

Direct labor

1000

750

500

1750

Variable overhead

1,558

2925

875

875

Variable selling and admin. exp.

26,667

26000

54000

0

Segmental Contribution

$1,224,325

$330,325

$784,625

$109,375

Not Directly Traceable

Fixed manufacturing overhead

200000

Fixed selling and administrative

100000

Firm wide profit with $140 per unit Selling Price

$924,325

Current Profitability with Product A and B

$815,750

Firm wide profit with $150 per unit Selling Price

$934,325

Firm wide profit with $140 per unit Selling Price

$924,325

Change in Profit of Product C due to Change in Selling Price from $150 to $140

$10,000

Considerations other than Financial to make Decision

Utilities

Being a manager, it is necessary to consider that no factory can run without utilities, and because they do not constitute direct labor or materials, utility costs are classified as manufacturing overhead. Common utilities necessary for Herrestad Company include water, sewer, electricity, and phone and internet service. In addition, any money spent to purchase and maintain computer systems necessary for Herrestad Company to proper production is also considered a part of manufacturing overhead.

Threshold of Profitability

As a manager of the company, it is important to recognize that the break-even of Herrestad Company is the balance point between receipts and expenses which is also called breakeven point. When the Herrestad Company is at breakeven, it does not lose money, but makes no profits. This point can be identified by a very good knowledge of costs and expenses of the Herrestad Company. Once accounting has identified the full costs to normal operation, ...