Question

A major health food chain has approached Fruit plc to ask if the company would be willing to provide 50,000 bars in the forthcoming year at a price of 80p per bar. The company will only accept 50,000 bars. Assume that the company has finalised production and sales plans for the year at a price of 90p and a volume of 180,000 bars. The maximum capacity Fruit plc can produce in a year is 200,000 bars. The variable cost of producing the bars is 50p

Based purely on the profit or loss from accepting the order, Fruit plc should agree to sell the 50,000 bars at 80p to the chain.  
True or False and why need to demonstrate ?

True
False

Answer 1

Since Production Capacity is limited to 200000 bars, The company can provide (200000-180000)=20000 bars easily to make additional profit.

For balance 30000 bars of the new order, company needs to divert existing sales to the new order.

This will result in a Loss of (90p-80p)*30000=$3,000

For additional production of 20000 bars:

Marginal cost =50p*20000=$10,000

Marginal Revenue=20000*80p=$16,000

Net Gain from additional production of 20000bars=(16000-10000)=$6,000

Loss from diversion of 30000 bars to be produced as per plan=$3,000

Net Profit, if the order is accepted =6000-3000=$3,000

Based purely on the profit or loss from accepting the order, Fruit plc should agree to sell the 50,000 bars at 80p to the chain.  

TRUE