Pavon Company reported the following sales and quality costs for the past four years. Assume that all
Question:
Pavon Company reported the following sales and quality costs for the past four years. Assume that all quality costs are variable and that all changes in the quality cost ratios are due to a quality improvement program.
Required:
1. Compute the quality costs for all four years. By how much did net income increase from Year 1 to Year 2 because of quality improvements? From Year 2 to Year 3? From Year 3 to Year 4?
2. The management of Pavon Company believes it is possible to reduce quality costs to 2.5 percent of sales. Assuming sales will continue at the Year 4 level, calculate the additional profit potential facing Pavon. Is the expectation of improving quality and reducing costs to 2.5 percent of sales realistic? Explain.
3. Assume that Pavon produces one type of product, which is sold on a bid basis. In Years 1 and 2, the average bid was $200. In Year 1, total variable costs were $125 per unit. In Year 3, competition forced the bid to drop to $190. Compute the total contribution margin in Year 3 assuming the same quality costs as in Year 1. Now, compute the total contribution margin in Year 3 using the actual quality costs for Year 3. What is the increase in profitability resulting from the quality improvements made from Year 1 to Year3?
Contribution margin is an important element of cost volume profit analysis that managers carry out to assess the maximum number of units that are required to be at the breakeven point. Contribution margin is the profit before fixed cost and taxes...
Step by Step Answer:
Cost Management Accounting and Control
ISBN: 978-0324559675
6th Edition
Authors: Don R. Hansen, Maryanne M. Mowen, Liming Guan