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Boa Mining Company currently is operating at less than 50% of practical capacity.
The management of the company expects sales to drop below the present level of 10,000 tons of ore per month very soon. The sales price per ton is $3 and the variable cost per ton is $2. Fixed costs per month total $10,000.
Management is concerned that a further drop in sales volume will generate a loss and accordingly is considering temporarily suspending operations until demand in the metals markets rebounds and prices once again rise. Management has implemented a cost reduction program over the past year, but at this point suspension of operations appears to be the only viable alternative. Management estimates that suspension of operations would reduce fixed costs from $10,000 to $4,000 per month.
Required:
a. Why does management believe that the fixed costs will persist at $4,000 even though the mine is temporarily closed?
b. At what sales volume per month will the company be indifferent between continuing to operate the mine and closing it?
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