Question

Polaski Company manufactures and sells a single product called a Ret. Operating at capacity, the company can produce and sell 40,000 Rets per year. Costs associated with this level of production and sales are given below:

	Unit				Total
Direct materials	$	25			$	1,000,000
Direct labor		6				240,000
Variable manufacturing overhead		3				120,000
Fixed manufacturing overhead		7				280,000
Variable selling expense		4				160,000
Fixed selling expense		6				240,000
Total cost	$	51			$	2,040,000

The Rets normally sell for $56 each. Fixed manufacturing overhead is $280,000 per year within the range of 31,000 through 40,000 Rets per year.

Required:

1. Assume that due to a recession, Polaski Company expects to sell only 31,000 Rets through regular channels next year. A large retail chain has offered to purchase 9,000 Rets if Polaski is willing to accept a 16% discount off the regular price. There would be no sales commissions on this order; thus, variable selling expenses would be slashed by 75%. However, Polaski Company would have to purchase a special machine to engrave the retail chain’s name on the 9,000 units. This machine would cost $18,000. Polaski Company has no assurance that the retail chain will purchase additional units in the future. What is the financial advantage (disadvantage) of accepting the special order? (Round your intermediate calculations to 2 decimal places.)

2. Refer to the original data. Assume again that Polaski Company expects to sell only 31,000 Rets through regular channels next year. The U.S. Army would like to make a one-time-only purchase of 9,000 Rets. The Army would pay a fixed fee of $1.60 per Ret, and it would reimburse Polaski Company for all costs of production (variable and fixed) associated with the units. Because the army would pick up the Rets with its own trucks, there would be no variable selling expenses associated with this order. What is the financial advantage (disadvantage) of accepting the U.S. Army's special order?

3. Assume the same situation as described in (2) above, except that the company expects to sell 40,000 Rets through regular channels next year. Thus, accepting the U.S. Army’s order would require giving up regular sales of 9,000 Rets. Given this new information, what is the financial advantage (disadvantage) of accepting the U.S. Army's special order?

Answer 1

per unit = Amount /40000 Amount Particulars Variable Costs Direct Materials Direct Labour Variable Manufacturing ohd Variable Selling exp Total Variable costs 1000000 240000 120000 160000 (A) 1520000 Fixed Costs Fixed Manufacturing ohd Fixed Selling expenses Total Fixed costs Total Costs 280000 240000 (B) 520000 (A+B) 2040000 Current contribution Sales Price Less: Variable costs Contribution per unit $ 56.00 $ 38.00 $ 18.00 Solution 1. As the company expects to sell only 31000 units through regular channel It has a spare capacity of 9000 units Offered Sale price ($ 56 x 84%) Less: Direct Materials Less: Direct Labour Less: Variable Manufacturing ohd Less: Variable Selling exp ($4 x 25%) Contribution per Unit No of units Total contribution Less: Special Machinery (Fixed Cost) Financial Advantage 47.04 25.00 6.00 3.00 1.00 12.04 9000 units $1,08,360.00 $ 18,000.00 $ 90,360.00 (A) (B) ( A B)

Note: Other Fixed costs are not relevant, as the order was to be met out of spare capacity Solution 2. Fixed Manufacturing expenses would have been already absorbed on the 31000 units Thus, fixed manufacturing expense reimbursed by US army will be considered as a Income. Therefore, Income per unit will be: Fixed Fees per Ret Reimbursement of fixed manufacturing ohd 1.60 7.00 8.60 No of Rets sold to US army Financial Advantage ($8.60 x 9000) 9000 units $ 77,400.00 Solution 3. If Company is selling 40000 rets throgh regular Channels, then profit per unit will be ($56 - $51) = $5 per unit If US Army's offer is accepted, Variable selling expenses will be saved. But the fixed selling expenses will have to be borne by the company Therefore ($1.60 - $6.00) X9000 units Disadvantage $39,600.00

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