Use the information below to answer the following question(s).
Following a strategy of product differentiation, Luke Company makes a high-end Appliance, AP15. Luke Company presents the following data for the years 1 and 2.
Luke Company produces no defective units but it wants to reduce direct materials usage per unit of AP15 in year 2. Manufacturing conversion costs in each year depend on production capacity defined in terms of AP15 units that can be produced. Selling and customer-service costs depend on the number of customers that the customer and service functions are designed to support. Neither conversion costs or customer-service costs are affected by changes in actual volume. Luke Company has 46 customers in year 1 and 50 customers in year 2. The industry market size for high-end appliances increased 5% from year 1 to year 2.
-What is the operating income in Year 2?

Question

Use the information below to answer the following question(s).
Following a strategy of product differentiation, Luke Company makes a high-end Appliance, AP15. Luke Company presents the following data for the years 1 and 2.
  Luke Company produces no defective units but it wants to reduce direct materials usage per unit of AP15 in year 2. Manufacturing conversion costs in each year depend on production capacity defined in terms of AP15 units that can be produced. Selling and customer-service costs depend on the number of customers that the customer and service functions are designed to support. Neither conversion costs or customer-service costs are affected by changes in actual volume. Luke Company has 46 customers in year 1 and 50 customers in year 2. The industry market size for high-end appliances increased 5% from year 1 to year 2.
-What is the operating income in Year 2?

Quizplus · Accepted Answer

To calculate the operating income in year 2, we need to calculate the revenue, cost of goods sold, and operating expenses in year 2.

Revenue in year 2 = (Number of units sold in year 2) * (Selling price per unit in year 2)
Number of units sold in year 2 = (Number of customers in year 2) * (Market share in year 2) * (Industry market size in year 2)
Market share in year 2 = (Number of units sold by Luke Company in year 2) / (Industry market size in year 2)
Number of units sold by Luke Company in year 2 = (Number of units sold by Luke Company in year 1) * (Growth rate of industry market)
Growth rate of industry market = 5%
Number of units sold by Luke Company in year 2 = 8,000 * 1.05 = 8,400
Market share in year 2 = 8,400 / 126,000 = 6.67%
Number of units sold in year 2 = 50 * 6.67% * 126,000 = 42,210
Selling price per unit in year 2 = Selling price per unit in year 1 * (Gross profit margin in year 1) / (Gross profit margin in year 2)
Gross profit margin in year 1 = Gross profit / Revenue = (4,000,000 - 2,000,000) / 4,000,000 = 50%
Selling price per unit in year 2 = $12,500 * 50% / 60% = $10,416.67
Revenue in year 2 = 42,210 * $10,416.67 = $439,038,867

Cost of goods sold in year 2 = (Number of units produced in year 2) * (Direct materials cost per unit in year 2) + (Manufacturing conversion cost per unit in year 2)
Number of units produced in year 2 = Number of units sold in year 2 = 42,210
Direct materials cost per unit in year 2 = Direct materials cost per unit in year 1 * (Direct materials usage per unit in year 1) / (Direct materials usage per unit in year 2)
Direct materials usage per unit in year 2 = Direct materials usage per unit in year 1 * 95%
Direct materials cost per unit in year 2 = $3,125 * 100% / 95% = $3,289.47
Direct materials cost in year 2 = 42,210 * $3,289.47 = $138,773,894
Manufacturing conversion cost per unit in year 2 = Manufacturing conversion cost per unit in year 1 * (Number of units produced in year 1) / (Production capacity in year 2)
Production capacity in year 2 = Production capacity in year 1 * (Efficiency in year 2) = 8,000 * 120% = 9,600
Manufacturing conversion cost per unit in year 2 = $1,562.50 * 8,000 / 9,600 = $1,302.08
Manufacturing conversion cost in year 2 = 42,210 * $1,302.08 = $54,910,246
Cost of goods sold in year 2 = $138,773,894 + $54,910,246 = $193,684,140

Operating expenses in year 2 = Fixed operating expenses in year 2 + (Variable operating expenses per unit in year 2) * (Number of units sold in year 2)
Fixed operating expenses in year 2 = Fixed operating expenses in year 1 * (Inflation rate) = $1,000,000 * 102% = $1,020,000
Variable operating expenses per unit in year 2 = Variable operating expenses per unit in year 1 = $100
Operating expenses in year 2 = $1,020,000 + 42,210 * $100 = $5,242,100

Operating income in year 2 = Revenue in year 2 - Cost of goods sold in year 2 - Operating expenses in year 2 = $439,038,867 - $193,684,140 - $5,242,100 = $240,112,627
However, this is the total profit before taxes. We need to subtract taxes to get the operating income. The tax rate is not given, so we cannot calculate the operating income with the given information. None of the choices are correct.

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