The Anaconda Mining Company currently is operating at less than 50 percent of practical capacity.The management of the company expects sales to drop below the present level of 15,000 tons of ore per month very soon.The selling price per ton of ore is $2 and the variable cost per ton is $1.Fixed costs per month total $15,000.
Management is concerned that a further drop in sales volume will generate a loss and, accordingly, is considering the temporary suspension of operations until demand in the metals markets returns to normal levels and prices rebound.Management has implemented a cost reduction program over the past year that has been successful in reducing costs.Nevertheless, suspension of operations appears to be the only viable alternative.Management estimates that suspension of operations would reduce fixed costs from $15,000 to $5,000 per month.
Required:
a.Why does management estimate that fixed costs will persist at $5,000 per month even though the mine is temporarily closed?
b.At what sales volume should management suspend operations at the mine?

Question

Elena Trifonova · Accepted Answer

Final Answer :

a.Some costs will continue despite the temporary closing of the mine.Key employees cannot be discharged because these employees will seek employment elsewhere and replacing them could prove to be quite costly.A skeleton staff would be needed to perform some administrative functions.Additionally, the maintenance of building and equipment would need to continue to prevent damage that would be costly to repair.Taxes and insurance would continue to be paid during the shut-down period.
b.Suspension of operations would be desirable when sales volume drops below 10,000 tons as shown below:

Each ton extracted contributes $1.00 per ton towards fixed costs:

Sales volume necessary to recover $10,000 of fixed costs:
$10,000 ÷ $1.00 = 10,000 tons

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