Laser machine price is $ 1,200,000 and will not be charged in the income statement but will be catered for in the cash book and the fixed assets ledger. The balances from cash book and fixed assets ledger will be transferred to the statement of financial position of the Azad Inc. (Eldenburg et al. 68). The new laser machine is worthy investing in since it will boost the contribution margin in the sense that the reduced variable costs will lead to increased contribution margin. The increased fixed costs are well covered the increase in sales.
The margin of safety for the year 2017 is higher than that of 2016 indicating that the Azad Inc. is in control of its business operations that is, sales are increasing with the level of activities in a proportional manner (Langfield-Smith et al. 120).
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The variable cost ratio of 72% shows how the sales of Azad Inc. are stable covering the variable costs, it drops significantly in 2017 due to the increase in fixed cost (Eldenburg et al. 68). The fixed costs bring very large impact on the contribution margin since they do not vary with a change in production units. The increase in fixed costs is among sunk costs and the company has no option but to pay for it. The margin of safety of 2016 is $ 7,630,508.83 less than that of 2017 of $ 15,059,559.36 by almost half a reflection of the decision to buy the new laser cutting machine (Salmela 210). The management of the company reached a sound decision of purchasing laser machine.
The contribution margin percentage of 30.94% of 2017 is much lower than that of 2016 of 40% which can be explained by the increase in fixed costs for Azad Inc. Even though the variable costs reduced by a bigger number than the increase in fixed costs, there impact on the overall sells was not substantial since they are directly proportional to production units and it means that an increase or decrease results from a change in production capacity. As for the fixed costs whether or not the firm has produced any product for sell, they have to be incurred anyway.
The breakeven of the company is getting stable from 2016 through to 2017 in almost double figures. Breakeven point of company shows the point at which there are not profits accruing to the company, where sales equals the cost of production (Salmela 210). An increased breakeven point from a lower point to a higher point like in the case of Azad Inc. means that the company has not fully exploited its capacity of production and can still keep on expanding and improving in its business operations in the foreseeable future.
Azad Inc. should invest in the purchasing of the laser machine because it will lead to increased contribution margin. In the process of making a decision on whether to invest in buying an asset for the firm or not, a firm should always go for the cheaper option even if that option means abandoning the project (Noreen et al. 243). As for Azad Inc. it had a stable and genuine reason to invest in the laser machine. There is no clear information from the company’s manager and owner about the residual value of the machine and its disposal procedures and whether they are going purchase another machine after three years or not (Noreen et al. 243). The information is critical now in that after three years using the machine the company cannot go back to the old ways of production without a machine after the machine becomes obsolete or its economic useful life comes to an end. There should also be the provision for breakdown of the machine because machine sometimes fail during production and that can cause serious losses to the company if not well thought out.
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Works Cited
Eldenburg, Leslie G., et al. Cost management: Measuring, monitoring, and motivating performance. Wiley Global Education, 2016.
Langfield-Smith, Kim, et al. Management accounting: Information for creating and managing value. McGraw-Hill Education Australia, 2017.
Noreen, Eric W., Peter C. Brewer, and Ray H. Garrison. Managerial accounting for managers. New York: McGraw-Hill/Irwin, 2014.
Salmela, Hannu. “Analysing business losses caused by information systems risk: a business process analysis approach.” Enacting Research Methods in Information Systems. Palgrave Macmillan, Cham, 2016. 180-216.