Product pricing and profit analysis with bottleneck operations
Delaware Bay Chemical Company produces three products: ethylene, butane, and ester.
Each of these products has high demand in the market, and Delaware Bay Chemical is able to sell as much as it can produce of all three. The reaction operation is a bottleneck in the process and is running at 100% of capacity.Delaware Baywants to improve chemical operation profitability. The variable conversion cost is $7 per process hour. The fixed cost is $550,000. In addition, the cost analyst was able to determine the following information about the three products:
|
Ethylene |
Butane |
Ester |
|
|
Budgeted units produced |
9000 |
9,000 |
9,000 |
|
Total process hours per unit |
3 |
3 |
2 |
|
Reactor hours per unit |
1 |
0.8 |
0.5 |
|
Unit selling price |
$165 |
$128 |
$115 |
|
Direct materials cost per unit |
$110 |
$75 |
$85 |
The reaction operation is part of the total process for each of these three products. Thus, for example, 1.0 of the 3 hours required to process ethylene are associated with the reactor.
Instructions:
1. Determine the unit contribution margin for each product.
2. Provide an analysis to determine the relative product profitability, assuming that the reactor is a bottleneck.
3. Assume that management wishes to improve profitability by increasing prices on selected products. At what price would ethylene and ester need to be offered in order to produce the same relative profitability as butane?