Short term decision - relevant cost

Sshahareel4y ago

hello Mr. John I am bit lost on a question from `BPP activity 3 of relevant cost of labour. A Co. is deciding whether to undertake a new contract, 15 hours of labour are required for the contract. labour is currently at full capacity for producing X. X cost card. Direct material (10kg*$2) = 20 Direct labour (5 kg*$6) = 30 direct cost = 50 selling price. 75 Contribution 25. what is the cost of using 15 hours of labour for the contract.? the answer is 165 Variable cost of labour (15hrs*$6) $90 Lost contribution from product X (15hr*$25/5). $75 Total: $165 this is the answer in book, without any explanation. I do understand the $90 is the cost for making new item under contract. but I don't understand why they multiplied the contribution with no. of hours for new item and again decided them by 5. kindly need your help please to get this done.

John MoffatTutor4y ago#1

Each existing unit gives a contribution of $25 but takes 5 hours to produce. Therefore each labour hour used is current earning a contribution of 25/5 = $5 per hour. The new contact needs 15 hours of labour and so they will lose contribution from the existing product of 15 x $5 - $75. (Or, to put it another way, given that each of the current units takes 5 hours to make, if they take 15 hours for the new contract they will end up losing 15/5 = 3 units of the existing product. Losing 3 units will lose them 3 x $25 = $75.)

Sshahareel4y ago#2

very clear prof. John. I got the whole point now, so anything that can surplus the gain on existing product and the cost involved to make new product - can be accepted thank you very much.:)

John MoffatTutor4y ago#3

You are welcome :-)

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