Impact Designs embroiders corporate and sports logos on clothing using state-of-the-art multiple head digital embroidering machines. Impact Designs is considering adding a new machine to enter the college and university market for athletic clothing (sports jerseys, jackets, caps, etc.). The client would buy the clothing and ship it to Impact Designs for embroidering. Impact Designs would only charge the client for embroidering the college's graphic design. The following table summarizes the price-quantity relation Impact Designs expects to face if it enters this college athletic gear market.

(Assume that all graphic designs that colleges use are of equal complexity and hence embroidering services can be priced per embroidery.)
Impact Design can lease various machines that provide different embroidering capacities. The following table summarizes the monthly lease fee, operating costs, and capacities of the various embroidering machines. The lease contract requires Impact Designs to lease the equipment for five years.

Required:
a. What size of machine will a firm-value-maximizing owner of Impact Designs lease, and what price will the owner set for an embroidery? Support your answer with clearly labeled computations. Assume that the market demand for embroideries at the various prices is perfectly certain over the life of the lease.
b. Impact Designs is organized into operating divisions. Each division manager is paid a fixed salary plus a bonus that depends in part on his/her division's profits. Impact Designs excludes fixed manufacturing capacity costs from the calculation of division profits whenever the division has excess capacity. Discuss possible reasons it might be beneficial for Impact Designs to have this policy of excluding fixed manufacturing capacity costs from the calculation of division profits whenever excess manufacturing capacity exists.
c. The manager of the newly created college athletic gear market will be paid a fixed salary plus a bonus that depends in part on the college athletic gear division's profits. Impact Designs excludes fixed manufacturing capacity costs from the calculation of division profits whenever the division has excess capacity. The corporate executive and owners of Impact Designs do not know how the quantity of embroideries demanded by the market may vary with the price of an embroidery. This information is only known by the college athletic gear division manager. What size machine will the college athletic gear division manager lease? Support your answer with clearly labeled computations. Assume that the market demand for embroideries at the various prices is perfectly certain over the life of the lease.
d. Discuss why your answers in parts (a) and (c) are either the same or differ?

Transcribed Image Text:

Number of embroideries per month 2,570 3,600 3,000 $14.75 2,250 Price per embroidery $14.00 $16.25 $15.50 Monthly Lease Cost of Machine Number of Embroideries per Month 3,600 3,000 2,570 2,250 Variable Cost per Embroidery $30,000 $21,000 $20,000 $3.90 $4.15 $4.20 $4.50