Question

Fairmount Travel Gear produces backpacks and sells them to vendors who sell them under their own label. The cost of one of its backpacks follows.

Materials	$	19.00
Labor		13.00
Variable overhead		6.00
Fixed overhead ($3,220,000 per year; 460,000 units per year)		7.00
Total	$	45.00

Riverside Discount Mart, a chain of low-price stores, has asked Fairmount to supply it with 29,000 backpacks for a special promotion Riverside is planning. Riverside has offered to pay Fairmount a unit price of $49 per pack. The regular selling price is $70. The special order would require some modification to the basic model. These modifications would add $5.00 per unit in material cost, $2.50 per unit in labor cost, and $1.50 in variable overhead cost. Although Fairmount has the capacity to produce the 29,000 units without affecting its regular production of 460,000 units, a one-time rental of special testing equipment to meet Riverside’s requirements would be needed. The equipment rental would be $68,000 and would allow Fairmount to test up to 60,000 units.

Required:

a. Prepare a schedule to show the impact of filling the Riverside order on Fairmont’s profits for the year.

b. Do you agree with the decision to accept the special order?

c. Considering only profit, determine the minimum quantity of backpacks in the special order that would make it profitable.

Answer 1

Impact of Special Order will be as follows:
Sales Revenue	1,421,000
Less: Costs
Direct material	696,000
Labor	449,500
Variable Overhead	217,500
Fixed Overhead	68,000
Impact on Profits	(10,000)
Hence, profits will decrease by $10,000
b.No, Should not be accepted
C.Minimum Quantity = Increased in Fixed costs/Contribution Margin per Unit
=68,000/2
i.e. 34,000 backpacks