Question

Delta Company produces a single product. The cost of producing and selling a single unit of this product at the company’s normal activity level of 106,800 units per year is:

Direct materials$2.30    

Direct labor$3.00    

Variable manufacturing overhead$.60    

Fixed manufacturing overhead$3.25    

Variable selling and administrative expenses$1.40   

Fixed selling and administrative expenses$2.00

The normal selling price is $20 per unit. The company’s capacity is 135,600 units per year. An order has been received from a mail-order house for 2,400 units at a special price of $17.00 per unit. This order would not affect regular sales.

Required:

1.	If the order is accepted, by how much will annual profits be increased or decreased? (The order will not change the company’s total fixed costs.)

2.Assume the company has 500 units of this product left over from last year that are inferior to the current model. The units must be sold through regular channels at reduced prices. What unit cost is relevant for establishing a minimum selling price for these units?

Answer 1

Requirement 1

Increase in annual profit

$      23,280.00

Working

financial advantage (disadvantage) of accepting the special order
Additional Revenue from offer (2400 x $17)	$      40,800.00
Less: Total Additional cost due to acceptance of offer	$      17,520.00
Financial Advantage	$      23,280.00

Calculation of Additional Cost of Order
	Per Unit	Total
Direct material	$                2.30	$        5,520.00
Direct labor	$                3.00	$        7,200.00
Variable manufacturing overheads	$                0.60	$        1,440.00
Variable selling and administrative expenses	$                1.40	$        3,360.00
Total Additional cost due to acceptance of order	$                7.30	$      17,520.00

Requirement 2

Relevant cost per unit =

$                1.40

Only selling cost will be relevant cost because all the manufacturing cost is already done hence that manufacturing cost is sunk cost and irrelevant in the case of 500 units.