Answer:
In trying to select location based on cost, the trick simply is to go for the location that gives you the lowest unit cost.
The unit cost of a product is calculated by dividing the sum of your Total Fixed and Total Variable costs by the Total number of units to be produced.
That is Unit Cost = (TFC + TVC)/Total Units Produced
Notice how Total keeps cropping up? It's key.
So lets get to the maths shall we?
Location 1
Step I
Total Fixed cost = $80,000
Variable Cost = $20
Total Unit to be Produced = 20,000
Step II
We can't plug in the factors into the equation yet because it's still "out of shape". Our Variable cost is given per unit. So we need to come up with the total Variable Cost by multiplying the Total Units to be produced by the VC/Unit. The answer must be expressed in monetary terms.
TVC 1 = $20 x 20,000
TVC 1 = $400,000
Step III
Solve for Unit Cost.
To do this, we have to plug in our Total Values:
Unit Cost 1= ($80,000+$400,000)/20,000
Unit Cost 1= (480,000)/20,000
UC 1 = 48/2
UC for Factory A = $24
Notice that Unit Cost is also expressed in dollars.
Location 2
By now, we already know the drill.
Step I
Solve for the Total Variable Cost because all we have is Variable Cost per Unit.
TVC for Location 2 = $16 x 20,000
TVC 2 = $320 000 (This must always be express in monetary terms)
Step II - Plug results from Step I into the equation for Unit Cost.
UC2 = ($140,000 + $320,000)/20,000
UC2 = $460,000/20,000
UC2 = $46/2
Unit Cost of Production for Location 2 = $23
Step III - Compare figures and choose location
So from our calculations,
Unit Cost for Atlanta Factory Location = $24
Unit Cost for Phoenix Factory Location = $23
All other factors remaining constant, the cheapest factor to manufacture from is Phoenix Factory Location.
Cheers!
