Question
Portsmouth Company makes upholstered furniture. Its only variable cost is direct materials. The demand for the...
Portsmouth Company makes upholstered furniture. Its only variable cost is direct materials. The demand for the company's products far exceeds its manufacturing capacity. The bottleneck (or constraint) in the production process is upholstery labor-hours. Information concerning three of Portsmouth's upholstered chairs appears below:
| Recliner | Sofa | Love Seat | ||||||||||
| Selling price per unit | $ | 1,220 | $ | 1,965 | $ | 1,375 | ||||||
| Variable cost per unit | $ | 800 | $ | 1,250 | $ | 1,000 | ||||||
| Upholstery labor-hours per unit | 7 hours | 13 hours | 5 hours | |||||||||
Required:
1. Portsmouth is considering paying its upholstery laborers hourly compensation, in addition to their usual salaries, to work overtime. Assuming that this extra time would be used to produce sofas, up to how much of an overtime premium per hour should the company be willing to pay to keep the upholstery shop open after normal working hours?
2. A small nearby upholstering company has offered to upholster furniture for Portsmouth at a price of $52 per hour. The management of Portsmouth is confident that this upholstering company’s work is high quality and their craftsmen can work as quickly as Portsmouth’s own craftsmen on the simpler upholstering jobs such as the Love Seat. How much additional contribution margin per hour can Portsmouth earn if it hires the nearby upholstering company to make Love Seats?
3. Should Portsmouth hire the nearby upholstering company?
Answers
1 Sofas Selling price per unit 1965 Less: Variable cost per unit 1250 Contribution margin per unit 715 Upholstery shop time required to produce one unit 13 Contribution margin per unit of the constrained resource 55 Maximum overtime premium per hour = $55 2 Love seat Selling price per unit 1375 Less: Variable cost per unit 1000 Contribution margin per unit 375 Upholstery shop time required to produce one unit 5 Contribution margin per unit of the constrained resource 75 Less: Additional cost per hour 52 Additional Contribution margin per hour 23 3 Yes, hire the nearby upholstering company
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