Question

Farrow Co. expects to sell 500,000 units of its product in the next period with the following results Sales (500,000 units) Costs and expenses $7,500,000 Direct materials Direct labor Overhead Selling expenses Administrative expenses 1,000,e0e 2,000,000 500,000 750,000 1,285,000 5,535,000 $1,965,000 Total costs and expenses Net income The company has an opportunity to sell 50,000 additional units at $13 per unit. The additional sales would not affect its current expected sales. Direct materials and labor costs per unit would be the same for the additional units as they are for the regular units However, the additional volume would create the following incremental costs. (1) total overhead would increase by 16% and (2) administrative expenses would increase by $215,000 Calculate the combined total net income if the company accepts the offer to sell additional units at the reduced price of $13 per unit.

Answer 1

Answer

• You filled out most of the part correctly.
• You left ‘Selling Expenses’ for ‘Additional Volume’.
• Selling expenses are based on units sold. Since no information is available if its Variable or fixed, consider it to be Variable. [See NOTE at the bottom of answer]
• Selling expense is $ 750000 for 500000 units, which means Selling expenses are $ 1.50 per unit sold [$ 750000/500000 units]
• Hence, selling expense for additional 50000 units = 50000 x $ 1.50 = $ 75,000

	Normal Volume	Additional Volume	Combined Total
Sales	$          7,500,000	$             650,000	$         8,150,000
Costs and Expenses:
Direct Materials	$          1,000,000	$             100,000	$         1,100,000
Direct Labor	$          2,000,000	$             200,000	$         2,200,000
Overhead	$             500,000	$               80,000	$            580,000
Selling Expenses	$              750,000	$               75,000	$            825,000
Administrative expenses	$          1,285,000	$             215,000	$         1,500,000
Total Cost and expenses	$          5,535,000	$             670,000	$         6,205,000
Incremental Income (Loss) from new business	$          1,965,000	$             (20,000)	$         1,945,000

• Since the additional 50000 units sale are leading to a Net Loss of $ 20,000 the company should REJECT THE OFFER.

• NOTE: In case that it is assumed that additional 50000 units will not incur any selling expenses, (which means all of selling expenses are FIXED) the amount would be $ 0 in Selling expense for ‘additional volume’. This will make your existing prefilled answer completely correct, and then company should accept the offer.