Reference no: EM132573821

The Sweater Company is a large producer of sweaters under the "Cignal" label. The company buys raw wool from local farmers and stores it for production. The company processes raw wool into wool yarns. The company recently purchased raw wool amounting to N$540 000. On average, raw wool costing N$45 is used to make one spindle of wool yarn. Direct labour cost of N$50 is required to convert raw wool into one spindle of wool yarn. Wool yarns are then further processed into children sweaters, and on average it takes one spindle of wool yarn to make one sweater. Wool yarns are issued to production based on their daily production capacity. Knitters knit sweaters manually on flat knitting machine as per the design provided to them. In piece rate production knitting one worker can make one sweater within 2.5 hours. However, when the demand of sweaters increases one worker is required to make two sweaters within 4 hours, but this is not always the case. The company sometimes gets a special order from individual customer who wants the sweater designed according to his/her specification, for example, a customer may want the sweater that has side pocket, belt, front placket, etc.

Flat knitting machines are available in different gauze setting to produce children sweaters for different weights. Small components like placket and belts are made in automatic knitting machines. Sweaters are available in front opening as well. So button attaching and button holing is done in finishing stage. Sweaters design might have zipper for front opening. Zippers are attached. Wash case label and brand label are attached using single needle Lock stitch machine. On average it takes a knitter 2.5 hours to make one sweater. Knitter is usually remunerated at an hourly rate of N$30. Apart from wool yarns, other raw materials amount to N$130 are used to make one sweater. The selling prices of wool and sweater are N$145 and N$450 per unit, respectively.

Originally, all of the wool yarn was used to produce sweaters, but in recent years a market has developed for the wool yarn itself. The wool yarns are purchased by other companies for use in the production of wool blankets and other wool products. Since the development of the market for the wool yarns, a continuing dispute has existed in the Sweater Company as to whether wool yarns should be sold simply as wool yarns or processed into sweaters. The market for sweaters is temporarily depressed, due to unusual warm weather in the SADC region where the sweaters are sold. This has made it necessary for the company to discount the selling price to N$450 from the normal N$500 price. Since the market for wool yarns has remained strong, the dispute has again surfaced over whether wool yarns should be sold outright rather than processed into sweaters. The sales manager thinks that the production of sweaters should be discontinued; she is upset about having to sell sweaters at loss, when wool yarn could be sold for a profit.

However, the production superintendent is equally upset at the suggestion that he closes down a large portion of the factory. He argues that the company is in the sweater business, not wool yarn business, and that the company should focus on its area of strength. The company has a capacity of manufacturing 12 000 wool yarns and 4 000 sweaters. Due to the nature of the production process, virtually all of the overhead costs are fixed and they cannot be avoided. Overheads are assigned to products on a basis of 150% of total direct labour cost.

REQUIRED:

Question 1: Calculate the break-even point in terms of units and sales revenue, assuming the company produces both wool yarns and sweaters, clearly indicate the break-even point in terms of units and sales revenue for each product individually.

Question 2: Calculate the break-even point in terms of units and sales revenue, assuming the company produces only wool yarns and the production of sweaters is discontinued.

Question 3: Discuss the financial reasons as to why you agree or disagree with sales manager that the production of sweaters should be discontinued.

Question 4: Based on requirement in (3), advise the Sweater Company's management by mentioning four non-financial factors to be considered if they should continue producing the sweaters. Total