Question

Huang Automotive is presently operating at 75% of capacity. The company recently received an offer from a Korean truck manufacturer to purchase 24,500 units of a power steering system component for $195 per unit.  Peter Wu, vice-president of sales, notes that although there will be an additional $2.50 shipping cost for each component, he thinks that accepting the order will get the company's "foot in the door" of an expanding international market.

To determine variable and fixed costs, Huang's accountant used the high-low method with the following production and cost information for the last two years:

	207,000 units	240,000 units
Total costs	$60,691,500	$66,780,000
Total costs per unit	$293.20	$278.25

T.J. Chan, vice-president of engineering, feels that any new market should first show its profitability and that the $195 per unit offer is not only below the regular $260 selling price, but it's below the unit cost of the component. She also points out that there will be additional setup costs of $270,000 and that Huang will have to lease some special equipment for $200,000.

REQUIRED [6 tries]
1. Using the high-low method to budget costs of the special order, what would the expected profit on the special order be (use a negative sign for a loss)?

Tries 0/6

Answer 1

Formula

Variable cost

.

Highest Activity cost less lowest activity cost

/ highest level of activity less lowest level of activity

.

$66,780,000-$60,691,500 / 240,000- 207,000

6,088,500 / 33,000= 184.5 per unit

.

Sales (24,500 × $195)	$4,777,500
Less: Variable cost (24,500 × $184.5	($4,520,250)
Less: Shipping cost (24,500 × $2.5)	(61,250)
Less: Setup Cost	($270,000)
Less: Lease Cost	($200,000)
Net Loss	($274,000)

in accepting new order we take only relevant cost which will influence our decesion so we ignore fixed cost which will incurr in any case but wr take setup and lease coat as they will only incur if we go for order.