Freddie Corporation produces a molded plastic casing, LX201, for desktop computers. Summary data from its 2012 income statement are as follows:
Revenues............ $ 3,000,000
Variable costs ......... 2,100,000
Fixed costs .......... 1,050,000
Operating income ...... $ (150,000)
Terra Foreman, Freddie’s president, is very concerned about Freddie Corporation’s poor profitability. She asks Julian Vang, production manager, and Seth Madden, controller, to see if there are ways to reduce costs.
After 2 weeks, Julian returns with a proposal to reduce variable costs to 58% of revenues by reducing the costs Freddie currently incurs for safe disposal of wasted plastic. Seth is concerned that this would expose the company to potential environmental liabilities. He tells Julian, “We would need to estimate some of these potential environmental costs and include them in our analysis.” “You can’t do that,” Julian replies. “We are not violating any laws. There is some possibility that we may have to incur environmental costs in the future, but if we bring it up now, this proposal will not go through because our senior management always assumes these costs to be larger than they turn out to be. The market is very tough, and we are in danger of shutting down the company, costing all of us our jobs. The only reason our competitors are making money is because they are doing exactly what I am proposing.”

1. Calculate Freddie Corporation’s breakeven revenues for 2012.
2. Calculate Freddie Corporation’s breakeven revenues if variable costs are 58% of revenues.
3. Calculate Freddie Corporation’s operating income for 2012 if variable costs had been 58% of revenues.
4. Given Julian Vang’s comments, what should Seth Madden do?

  • CreatedJanuary 15, 2015
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