A Company Is Trying to Decide Which of Two New

question 32

Essay

A company is trying to decide which of two new product lines to introduce in the coming year.The predicted revenue and cost data for each product line follows:
$$\begin{array}{lrr}&\underline{\text{Product A}}&\underline{\text{Product B}}\\\text{Sales}&\$ 80,000&\$ 96,000\\\text{Direct materials}&3,000&6,000\\\text{Direct labor}&30,000&45,000\\\text{Other cash operating expenses}&7,500&9,000\\\\\text{New equipment costs}&75,000&100,000\\\text{Estimated useful life (no salvage)}&5 \text { years }&5 \text { years }\end{array}$$

The company has a 30% tax rate,uses the straight-line depreciation method,and predicts that cash flows will be spread evenly throughout each year.Calculate each product's payback period.If the company requires a payback period of three years or less,which,if either,product should be chosen?

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Definitions:

Conversion Costs

The combined costs of direct labor and manufacturing overhead required to convert raw materials into finished products.

Equivalent Units

A term used in cost accounting to indicate a standard amount of work done on an incomplete unit, making it comparable to complete units.

Beginning Inventory

The value of goods available for sale at the start of an accounting period.

First-In, First-Out

An inventory valuation method where the goods purchased or produced first are sold or used first.