Question

Huang Automotive is presently operating at 75% of capacity. The company recently received an offer from a Korean truck manufacturer to purchase 21,500 units of a power steering system component for $190 per unit.  Peter Wu, vice-president of sales, notes that although there will be an additional $2.25 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.

Huang's production and cost information for the last two years for the component are as follows:

	192，000 units	225,000 uints
direct material costs	$17,280,000	$20,250,000
direct labor costs	5,184,000	6,075,000
overhead costs	21,348,000	23,212,500
selling and administrative costs	7,232,000	7,512,500
total costs	$51,044,000	$57,050,000
total costs per unit	$265.85	$253.56

T.J. Chan, vice-president of engineering, feels that any new market should first show its profitability and that the $190 per unit offer is not only below the regular $270 selling price, but it's below the unit cost of the component. She also points out that there will be additional setup costs of $240,000 and that Huang will have to lease some special equipment for $210,000.

Required
1. Using the high-low method to determine cost behavior, what would the expected profit be on the special order (use a negative sign for a loss)?

Answer 1

Answer:-

Total cost for 192,000 unit is 51,044,000 and total cost for 225,000 unit is 57,050,000..Hence variable cost is

variable cost = (57,050,000 - 51,044,000)/(225000-192000)

Variable cost = 182 per unit

Fixed cost = 51,044,000 - (192000*182)

Fixed cost = 16,100,000

Calculate variable cost for new activity

=182 + 2.25 of shipping cost

=184.25

Other fixed cost = 240,000+210,000 = 450,000/21,500 = 20.93

So minimum price to be expected is 184.25+20.93 = 205.18 so per unit loss of (15.18)