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 102,000 units per year is: Direct materials $ 2.40 Direct labor $ 3.00 Variable manufacturing overhead $ 0.70 Fixed manufacturing overhead $ 4.45 Variable selling and administrative expenses $ 1.50 Fixed selling and administrative expenses $ 2.00 The normal selling price is $22.00 per unit. The company’s capacity is 121,200 units per year. An order has been received from a mail-order house for 1,600 units at a special price of $19.00 per unit. This order would not affect regular sales or the company’s total fixed costs.

Required:

1. What is the financial advantage (disadvantage) of accepting the special order?

2. As a separate matter from the special order, assume the company’s inventory includes 1,000 units of this product that were produced last year and that are inferior to the current model. The units must be sold through regular channels at reduced prices. The company does not expect the selling of these inferior units to have any effect on the sales of its current model. What unit cost is relevant for establishing a minimum selling price for these units?

Answer 1

Delta Company
1-a Calculation Of incremental Income
Revenue :-
S.P p.u		19
Expenses :-
DM	2.4
DL	3
Var. Mfg. OH	0.7
Var. Selling and Adm. Exp.	1.5
Total expenses		7.6
Contribution margin p.u		11.4
Incremental Contribution Margin ( 1600 * 11.4 )		18,240
Annual Profits would increase by $ 18240.
Note :- fixed costs are irrelevant here as they will continue to occur whether or not the special order
is accepted.
2- Relevant Cost
Var. Selling and Adm. Exp.	1.5
Relevant cost per unit	1.5
All other costs are sunk since the product has already been produced
and the fixed costs are irrelevant as they will not change irrespesctive of
the production and sales.