Saturday, September 21, 2019

Mill Metals Inc. has three grades of metal product, Type 5, Type 10, and Type 20. Financial data for the three grades are as follows:

Mill Metals Inc. has three grades of metal product, Type 5, Type 10, and Type 20. Financial data for the three grades are as follows:












Type 5 Type 10 Type 20
Revenues $43,000 $49,000 $56,500
Variable cost $34,000 $28,000 $26,500
Fixed cost     8,000      8,000      8,000
Total cost $42,000 $36,000 $34,500
Income from operations $ 1,000 $13,000 $22,000
Number of units ÷ 5,000 ÷ 5,000 ÷ 5,000
Income from operations per unit $  0.20 $  2.60 $  4.40


Mill’s operations require all three grades to be melted in a furnace before being formed. The furnace runs 24 hours a day, 7 days a week, and is a production bottleneck. The furnace hours required per unit of each product are as follows:

Type 5: 6 hours
Type 10: 6 hours
Type 20: 12 hours

The Marketing Department is considering a new marketing and sales campaign.

Which product should be emphasized in the marketing and sales campaign in order to maximize profitability?


Answer:
Determine the contribution margin per furnace hour as follows: 
Type 5 Type 10 Type 20 
Revenue……………………………………… $43,000 $49,000 $56,500 
Variable cost…………………………………   34,000   28,000   26,500 
Contribution margin………………………  $  9,000 $21,000 $30,000 
÷ Divide by number of units………………      5,000  units     5,000  units     5,000  units 
Unit contribution margin…………………   $    1.80 $    4.20 $    6.00 
Unit contribution margin 
per furnace hour*…………………………  $    0.30 $    0.70 $    0.50 
* Calculated as follows: 
$1.80 
Type 5: =   $0.30 per furnace hour 
6 hours 
$4.20 
Type 10: =   $0.70 per furnace hour 
6 hours 
$6.00 
Type 20: =   $0.50 per furnace hour 
12 hours 
Emphasize Type 10. In a production-constrained environment, Type 10 generates 
the most unit contribution margin per hour of furnace resource and, thus, is the 
most profitable. While Type 20 has the largest profit per unit ($4.40) and unit 
contribution margin ($6.00), these would not be the correct metrics for determining 
the product to emphasize in the marketing campaign, assuming the furnace is a 
bottleneck resource. 

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