A garment manufacturing company makes 380,000 articles per year. Each article takes 95 minutes of direct labor at the rate of $9.00 per hour. The overhead costs are $7.50 per direct labor hour. The average price of the finished product is $80 per article. A new machine will reduce the direct labor hour by 15 minutes per article. What is the maximum amount the company should pay for the new machine if it wants to break even by the end of the first year

The maximum amount the company should pay for the new machine is $1,567,500 if it wants to break even by the end of the first year

Explanation:

Number of article (N) = 380.000

Time for each articles (T) = 95 minutes = 1.583 hours

Direct Labour Cost (D1) = $9 per hour

Overhead Cost (O1) = $7.50 per direct labour hour

Total cost for labour (C) = D1 + O1 = $16.50 per hour

Selling price of articles (S1) = $80 per article

- Cost of Production (P1) = N * T * C

= 380,000 * 1.583 * 16.50

=$9,925,410

-Total amount got by selling (S) = N * S1

=380,000 * 80

=$30,400,000

Profit in this process (R1) = S - P1

=30,400,000 - 9,925,410

=$20,474,590 per year

-Time for each article with new machines (T) = 95 - 15 = 80 minute = 1.333 hour

-Cost for production (P2) = N * T * C

=380,000 * 1.333 * 16.50

=$8,357,910

Profit in this Process (R2) = S-P2=

=30,400,000 - 8,357,910

=$22,042,090 per year

Net Profit gain by new machine = R2 - R1

=$22,042,090 - $20,474,590

=$1,567,500 per year

The maximum amount the company should pay for the new machine is $1,567,500 if it wants to break even by the end of the first year