Question

Elkhorn, Inc., which has excess capacity, received a special order for 5,200 units at a price of $13 per unit. Currently, production and sales are anticipated to be 11,000 units without considering the special order. Budget information for the current year follows.

Sales	$	198,000
Less: Cost of goods sold		132,000
Gross margin	$	66,000

  
Cost of goods sold includes $22,000 of fixed manufacturing cost. If the special order is accepted, the company's income will:

Multiple Choice

• increase by $5,200.

• decrease by $5,200.

• increase by $15,600.

• decrease by $15,600.

• None of the answers is correct.

Answer 1

Answer)

Calculation of increase in income if special order is accepted

Particulars	Amount (in $)
Sales (5,200 units X $ 13.00 per unit)	67,600
Less: Cost of goods sold
Variable Cost (5,200 units X $ 10.00 per unit)	52,000
Fixed Cost	-
Additional Income from Special order	15,600

Note: Fixed cost of $ 22,000 is not a relevant cost for the special order as it is unavoidable and will be incurred irrespective whether the order is accepted is not. This cost will be charged from exiting regular production of 11,000 units and since it is not a relevant cost for special order it has not been considered for calculation of increase in Net income from special order.

Therefore the Net income of the company will increase by $ 15,600 of the special order is accepted and hence the correct option if (c ) Increase by $ 15,600.

Working Notes:

Calculation of Variable cost per unit:

Particulars	Amount
Total Cost of goods sold	$132,000
Less: Fixed Cost	$ 22,000
Variable Cost	$ 110,000
Number of units Produced	11,000 units
Variable Cost per unit	$ 10 per unit

Existing income statement:

Particulars	Amount (in $)
Sales	198,000
Less: Cost of goods sold
Variable Cost ($ 132,000 - $ 22,000)	110,000
Fixed Cost	22,000
Gross Margin	66,000