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 103,200 units per year is:

Direct materials	$	2.10
Direct labor	$	3.00
Variable manufacturing overhead	$	0.70
Fixed manufacturing overhead	$	4.05
Variable selling and administrative expenses	$	1.90
Fixed selling and administrative expenses	$	2.00

The normal selling price is $19.00 per unit. The company’s capacity is 134,400 units per year. An order has been received from a mail-order house for 2,600 units at a special price of $16.00 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

(1) Financial advantage (disadvantage) of accepting the special order :-

        Sales value at special price – Variable cost

Fixed cost is Irrelevant cost for this order

Sales Value (2600 units * $16)	41600
(-) Direct Material (2600 units * $2.10)	5460
(-) Direct Labour (2600 units * $3)	7800
(-) Variable Mfr O/H (2600 units * $0.70)	1820
(-) Variable S & A Exp (2600 units * $1.90)	4940
Financial advantage of accepting the special order	21580

(2) Company’s inventory includes 1,000 units of this product that were produced last year and that are inferior to the current model.

The cost of these units are SUNK

Sunk cost ( Past cost) is a cost that has already been incurred and cannot be recovered.

Hence Relevant cost for establishing a minimum selling price for these units is 0