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 104,400 units per year is: Direct materials $ 1.80 Direct labor $ 2.00 Variable manufacturing overhead $ 0.80 Fixed manufacturing overhead $ 4.65 Variable selling and administrative expenses $ 1.40 Fixed selling and administrative expenses $ 1.00 The normal selling price is $25.00 per unit. The company’s capacity is 126,000 units per year. An order has been received from a mail-order house for 1,800 units at a special price of $22.00 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. What unit cost is relevant for establishing a minimum selling price for these units?

Answer 1

Solution 1:

Computation of financial advantage (Disadvantage) from special order
Particulars	Amount
Revenue from special order (1800*$22)	$39,600.00
Relevant cost of special order:
Direct material (1800*$1.8)	$3,240.00
Direct Labor (1800*$2)	$3,600.00
Variable manufacturing overhead (1800*$0.80)	$1,440.00
Variable selling and administrative expenses (1800*$1.4)	$2,520.00
Financial advantage (disadvantage) from special order	$28,800.00

Solution 2:

Only the variable selling and administrative expense is relevant for establishing a minimum selling price for these inferior units. Therefore, Relevant cost = $1.4 per unit

Other variable manufacturing cost have already incurred therefore they will be considered as sunk cost.