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Decesion Making Relevant Costs

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A 50% markup is standard in this industry so that Pecos must sell to distributors below $400 per printer to keep the retail price below the industry top of $600 ($400 * 150% = $600). Paul Pecos, the founder and CEO of Pecos Printers, wants to keep the price to distributors as low as possible so he has carefully engineered his manufacturing process to be as efficient as possible.

The model PP 7500 is an exceptionally desirable model with the following features:

A monthly capacity of 10,000 copies

A print speed of 10 copies per minute for black and white and 5 copies per minute for color.

A lifetime capacity of 120,000 copies.

The ability to accept readily available HP ink cartridges.

Lester Ledger, the Pecos Controller has developed the following cost sheet for the model 7500:

Cost Category Cost per Unit
Direct Materials (Variable) $145
Direct Labor (Variable) 60
Overhead (Variable) 40
Overhead (Fixed)* 45
Total Unit Costs $290

*This is determined on a per unit basis as followed. Lester assumes that the annual fixed overhead costs for this product will be $450,000 and that approximately 10,000 Model 7500's will be produced during the current year. Pecos has the capacity to produce 20,000 units per year without increasing fixed costs.

Paul has determined that approximately 20% of the total manufacturing costs are necessary for a decent profit.

Based on these data, Paul has developed the following pricing rule for his sales staff: Accept any offer from distributors of $300 or more and reject any offer below $300.

The sales staff is on salary with no commission paid for any sale. The salesmen negotiate with distributors who make firm offers which the Pecos salesmen then either accept or reject. Last month the three salesmen reported the following offers and results:

Offer (per unit) Number of Units Accepted?
Sam Smoothtalk
Offer No. 1 $310 200 Yes
Offer No. 2 $305 150 Yes
Offer No. 3 $295 300 No
Harry Hustler
Offer No. 1 $305 50 Yes
Offer No. 2 $200 250 No
Offer No. 3 $300 100 Yes
Offer No. 4 $330 75 Yes
Gary Giftofgab
Offer No. 1 $305 250 Yes
Offer No. 2 $245 400 No
Offer No. 3 $325 100 Yes

In addition, Ms. Glenda Goodperson, the office assistant manager received an offer from a new distributor for 700 units at $290. She felt this would be advantageous for Pecos and accepted the offer. When Paul Pecos found out about this transaction, he was furious that Ms. Goodperson had violated his decision rule and fired her on the spot. He then cancelled the order with the new distributor.

Overall, Paul was satisfied with the month's sales results. His sales staff had sold 925 units which translated to an annual rate of over 11,000 units. This was 10% above his estimate of 10,000 annual sales.

Prepare a contribution margin income statement for the month with two columns: in the first column, show the results following Paul's decision rule. In the second column, show what the results would have been if you chose to revise the decision rule and your revised decision rule had been followed. For simplicity sake, ignore non-manufacturing costs and taxes.
Do you have any other recommendations for Paul to improve his operations?

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Solution Summary

The solution analyse decision of Paul Pecos related sales of printers and provides explanation on decesion making based on relevant costs and how this would increase profit for his company

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