Assignment: Hampshire Company Case Study

Section I: Cost-Volume-Profit Analysis

The Hampshire Company manufactures umbrellas that sell for $12.50 each. In 2014, the company made and sold 60,000 umbrellas. The company had fixed manufacturing costs of $216,000. It also had fixed costs for administration of $79,525. The per-unit costs of each umbrella are as follows:

Direct Materials: $3.00
Direct Labor: $1.50
Variable Manufacturing Overhead: $0.40
Variable Selling Expenses: $1.10

Using the information above, perform a cost-volume-profit (CVP) analysis by completing the steps below. All CVP calculations should be completed in the Hampshire Company Spreadsheet. Note: The CVP analysis satisfies Part A of Section I.

1. Compute net income before tax.

2. Compute the unit contribution margin in dollars and the contribution margin ratio for one umbrella.

3. Calculate the break-even point in units and dollars of revenue. Note: This is a required part of the CVP analysis and satisfies Part C of Section I.

4. Calculate the margin of safety:

a. In units
b. In sales dollars
c. As a percentage

5. Calculate the degree of operating leverage.

6. Assume that sales will increase by 20% in 2015. Calculate the percentage of before-tax income for this increase. Provide calculations to prove that your percentage increase is correct based on the operating leverage calculated in step 5.

7. Compute the number of umbrellas that Hampshire is required to sell if it plans to earn $120,000 in income before taxes by using the target income formula. Proof your calculation.

8. A company that specializes in tours in England has offered to purchase 5,000 umbrellas at $11 each from Hampshire. The variable selling costs of these additional units will be $1.30 as opposed to $1.10 per unit. Also, this production activity will incur another $15,000 of fixed administrative costs. Should Hampshire agree to sell these additional 5,000 umbrellas to the touring business? Provide calculations to support your decision.

Section II: Inventory Management

The information below represents the beginning and ending inventory amounts along with the production and sales for the month in umbrella units.

Beginning Inventory: 0 Umbrellas
Production: 80,000 Umbrellas
Sales: 60,000 Umbrellas
Ending Inventory: 20,000 Umbrellas

Using the information provided above and the costs and sales information provided in Section I, complete the following in the Hampshire Company Spreadsheet in order to assist you in responding to all components of Section II:

• Prepare a variable costing income statement.
• Prepare an absorption costing income statement.

Section III: Benchmarking

The management of the Hampshire Company would like to implement benchmarking. Standard costs have been established and are presented below. You will want to complete a variance analysis to include efficiency and price variances for materials (cloth and handle assemblies) and labor based on the following data:

Units Produced = 80,000
Units Sold = 60,000

Direct Materials Purchased and Used
Actual square yards of cloth purchased and used: 128,000
Actual price incurred per yard: $1.25

Actual handles purchased and used: 80,808
Actual price per handle/rib/stretcher assembly: $0.99

Direct Manufacturing Labor Used
Actual direct labor hours used: 15,748
Actual price per hour: $7.62
Direct labor costs: $120,000

Standard Rates
Standard labor hours per unit: 0.20
Standard labor price per hour: $7.50
Square yards material per unit: 1.50
Standard price per yard: $1.15
Handle/rib/stretcher assembly per unit: 1
Standard price per handle assembly: $1.05

Companies can use variance analysis and benchmarking to measure performance within their own company and against competitors. This can be done by setting standards/budgets and comparing a completed variance analysis to results from prior periods or comparing them to competitors' results. Using the information provided above, complete the following calculations (steps 1 and 2) in the Hampshire Company Spreadsheet. This will assist you in responding to all components of Section III.

1. Calculate price variances for material and labor and denote whether they are favorable or unfavorable.

2. Calculate efficiency variances for material and labor and denote whether they are favorable or unfavorable.

Section IV: Alternative Costing Method

Hampshire has always produced stick umbrellas. However, it is considering expanding its production to include collapsible umbrellas. This consideration has been spurred by Tours Today, a touring company that is interested in providing its customers with collapsible umbrellas imprinted with its logo. The management at Hampshire is currently working out a deal with the touring company to produce 3,000 collapsible umbrellas and believes it can sell those umbrellas for $14.00 each. Here are the costs that can be directly traced to this special order:

Direct Materials: $9,300
Direct Labor Hours: 600
Hourly Rate of Direct labor: $8.00

In the traditional costing approach, overhead is applied at the rate of $24.60 per labor hour. This expansion in production will add additional overhead costs. The total overhead costs (assuming production of the stick and collapsible umbrellas) to include the cost pools and cost drivers are provided in Table 2.

An alternative costing method that might benefit Hampshire is the implementation of activity-based costing (ABC). Hampshire would like to implement an ABC approach to analyze the production of this special order of collapsible umbrellas. The controller has assembled the following information:

Table 1: Direct Cost Information and Activities

Table 2: Activity Cost Pools and Cost Drivers

Using the information provided above, complete the following in the Hampshire Company Spreadsheet in order to assist you in responding to all components of Section IV:

1. Calculate the allocation rates for each cost driver using ABC.
2. Use the traditional costing approach to calculate the total cost and the unit cost of the stick and collapsible umbrellas.
3. Use ABC to compute the total costs and the unit cost for the stick and collapsible umbrellas.
4. Compute the difference between the product cost per stick and collapsible umbrellas using the unit cost that you computed with the traditional approach and the one that you computed using ABC.