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 99,600 units per year is:

Direct materials	$	1.60
Direct labor	$	3.00
Variable manufacturing overhead	$	.50
Fixed manufacturing overhead	$	3.95
Variable selling and administrative expenses	$	2.00
Fixed selling and administrative expenses	$	2.00

The normal selling price is $19 per unit. The company’s capacity is 123,600 units per year. An order has been received from a mail-order house for 2,000 units at a special price of $16.00 per unit. This order would not affect regular sales.

Required:

1.	If the order is accepted, by how much will annual profits be increased or decreased? (The order will not change the company’s total fixed costs.)

   

2.

Assume the company has 500 units of this product left over from last year 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? (Round your answer to 2 decimal places.)

Answer 1

Solution 1: $17,800

Since the additional order of 2000 units would not affect the regular sales and would not create any additional fixed cost,

The relevant cost for new order will be:

Direct Materials+ Direct Labor + Variable Manufacturing Overhead+ Variable Selling Expenses

= 1.6 + 3 + 0.5 + 2

= $7.1

Sale price per unit for new order = $16

Net Profit per unit = $16 - $7.1 = $8.9

No. of units to be sold = 2000

Total Profit: 2000 * 8.9 = 17,800

Solution 2: $2

Since the product is inferior to the current model and is to be sold through regular channels at reduced prices, the only relevant cost for the left-over product is variable selling overheads. There wouldn’t be any expense as direct material, labor or variable manufacturing overhead. Only variable selling overhead will be incurred on sale.

Relevant cost per unit for left-over 500 units = $2