Question

UNTER COMPONENTS Star 150 150 Costs per unit Direct materials Direct labor Variable overhead Fixed overhead Total cost per unit Price Units sold Star 100 130 $ 60 30 180 400 $ 580 $ 4,000 40 240 510 780 2,000 40 Additional Information: Variable overhead varies with quantity of direct labor-hours. Average wage rate per hour Plant capacity (in direct labor-hours) 20,000 Current production (in direct labor-hours) 10,000 Requirement a. Information: Star 100 2,500 400 $ Star 150 2,500 500 Units purchased Selling price per unit Requirement b. Information: Star 100 3,500 400 Star 150 3,500 500 Units purchased Selling price per unit $ $ Requirement c. Information: Star Star

Answer 1

​​​​​​a) Labor hours required for special order:

Model	Labor Cost per unit (A)	Wage Rate per hour (B)	Labor Hours per unit (A/B)
Star 100	60	40	1.5 hrs per unit
Star 150	80	40	2.0 hrs per unit
	Special Order Quantity	Total hours required
Star 100	2,500	3,750 (2,500*1.5 hrs)
Star 150	2,500	5,000 (2,500*2.0 hrs)
Total		8,750 hrs

Incremental profit/(loss) on special order: (Amounts in $)

Differential Revenues	Star 100	Star 150	Total
Special Order Units (i)	2,500	2,500
Selling price (ii)	400	500
Incremental Revenue (A = i*ii)	1,000,000	1,250,000	2,250,000
Special Order Units (iii)	2,500	2,500
Total Variable cost (iv)	220 (130+60+30)	270 (150+80+40)
Differential cost (B = iii*iv)	550,000	675,000	1,225,000
Differential profit (loss) (A-B)	450,000	575,000	1,025,000

b) Labor hours required for special order:

Model	Labor Hours per unit (C)	Special order quantity (D)	Total Hours (C*D)
Star 100	1.5 hrs	3,500 units	5,250 hrs
Star 150	2.0 hrs	3,500 units	7,000 hrs
Total			12,250 hrs

If labor hours for 3,500 units exceed capacity (excess capacity is 10,000 hrs), production will need to be reduced on the product with the lowest contribution margin.

Plant capacity (in direct labor hours)	20,000
Capacity used for special orders	(12,250)
Capacity available for regular orders	7,750

Calculation of contribution margin per hour for regular orders (Amounts in $)

	Star 100	Star 150
Revenue per unit	580	780
Variable cost per unit	220	270
Contribution margin per unit (1)	360	510
Direct labor hours per unit (2)	1.5 hrs	2.0 hrs
Contribution margin per hour (1/2)	240	255

As contribution margin per hour is lower from star 100, we need to sacrifice 2,250 (12,250 required -10,000 available) hours from regular production of Star 100 to fulfill the given special order. [Units lost for regular sales is 1,500 units (2,250 hrs/1.5 hrs)]

Calculation of Contribution Margin lost from regular sales (Amounts in $)

Lowest contribution margin per hour	240
Hours over capacity (12,250-10,000)	2,250 hrs
Total lost contribution margin (2,250 hrs*240)	540,000

Calculation of Total Contribution Margin with the special order (Amounts in $)

Special Order	Star 100	Star 150	Total
CM per unit	180 (400-220)	230 (500-270)
Number of units	3,500	3,500
Special Order CM	630,000	805,000	1,435,000
Regular Production
CM per unit	360	510
Number of units	2,500 (4,000-1,500)	2,000
Regular Orders CM	900,000	1,020,000	1,920,000
Total Contribution Margin (A)	1,530,000	1,825,000	3,355,000
Regular Production	Star 100	Star 150
CM per unit	360	510
Number of units	4,000	2,000
Total Contribution Margin (B)	1,440,000	1,020,000	2,460,000
Difference in profit with special (A-B)			895,000

Therefore the company should accept the special order as total contribution margin will increase by $895,000.

c) Calculation of Total Contribution Margin with the special order (Amounts in $)

Special Order	Star 100	Star 150	Total
CM per unit	180 (400-220)	230 (500-270)
Number of units	3,500	3,500
Total Contribution Margin (C)	630,000	805,000	1,435,000
Regular Production
CM per unit	360
Number of units lost	1,500
Incremental cost (D)	540,000	0	540,000
Total Contribution Margin (C-D)	90,000	805,000	895,000
Additional direct labor costs (20,000 hrs*$60)			(1,200,000)
Additional Variable Overhead (20,000 hrs*$10)			(200,000)
Difference in profit with special			(505,000)

As there is a decrease in profit by $505,000, special order should not be accepted.