In: Accounting
Polaski Company manufactures and sells a single product called a Ret. Operating at capacity, the company can produce and sell 48,000 Rets per year. Costs associated with this level of production and sales are given below:
Unit | Total | ||||||
Direct materials | $ | 25 | $ | 1,200,000 | |||
Direct labor | 10 | 480,000 | |||||
Variable manufacturing overhead | 3 | 144,000 | |||||
Fixed manufacturing overhead | 7 | 336,000 | |||||
Variable selling expense | 4 | 192,000 | |||||
Fixed selling expense | 6 | 288,000 | |||||
Total cost | $ | 55 | $ | 2,640,000 | |||
The Rets normally sell for $60 each. Fixed manufacturing overhead is $336,000 per year within the range of 41,000 through 48,000 Rets per year.
Required:
1. Assume that due to a recession, Polaski Company expects to sell only 41,000 Rets through regular channels next year. A large retail chain has offered to purchase 7,000 Rets if Polaski is willing to accept a 16% discount off the regular price. There would be no sales commissions on this order; thus, variable selling expenses would be slashed by 75%. However, Polaski Company would have to purchase a special machine to engrave the retail chain’s name on the 7,000 units. This machine would cost $14,000. Polaski Company has no assurance that the retail chain will purchase additional units in the future. What is the financial advantage (disadvantage) of accepting the special order? (Round your intermediate calculations to 2 decimal places.)
2. Refer to the original data. Assume again that Polaski Company expects to sell only 41,000 Rets through regular channels next year. The U.S. Army would like to make a one-time-only purchase of 7,000 Rets. The Army would pay a fixed fee of $1.80 per Ret, and it would reimburse Polaski Company for all costs of production (variable and fixed) associated with the units. Because the army would pick up the Rets with its own trucks, there would be no variable selling expenses associated with this order. What is the financial advantage (disadvantage) of accepting the U.S. Army's special order?
3. Assume the same situation as described in (2) above, except that the company expects to sell 48,000 Rets through regular channels next year. Thus, accepting the U.S. Army’s order would require giving up regular sales of 7,000 Rets. Given this new information, what is the financial advantage (disadvantage) of accepting the U.S. Army's special order?
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Due to character limit I am attaching the image of Situation 3.
Particulars | Details | Amount | Price per unit | ||||||||
No. of units produced | 48,000.00 | 48,000.00 | |||||||||
Sell price per unit | 60.00 | A | |||||||||
Direct Material | 1,200,000.00 | 25.00 | |||||||||
Direct Labor | 480,000.00 | 10.00 | |||||||||
Variable Manufacturing overhead | 144,000.00 | 3.00 | |||||||||
Variable selling expense | 192,000.00 | 4.00 | C | ||||||||
Total Variable cost per unit | 42.00 | ||||||||||
Contribution per unit | 18.00 | G | |||||||||
Fixed Manufacturing overhead | 336,000.00 | 7.00 | |||||||||
Fixed selling expense | 288,000.00 | 6.00 | |||||||||
Total Fixed cost per unit | 13.00 | ||||||||||
Current Scenario | |||||||||||
Units Sold | 41,000.00 | ||||||||||
Contribution earned | 738,000.00 | 41,000*18 | |||||||||
Less: | |||||||||||
Fixed Manufacturing overhead | 336,000.00 | ||||||||||
Fixed selling expense | 288,000.00 | ||||||||||
Net Profit | 114,000.00 | ||||||||||
Situation 1- Offer of Retail Chain | |||||||||||
Reduction in Sell price by | 16% | ||||||||||
Reduction in Sell price per unit | 9.60 | B=A*16% | |||||||||
Reduction in Variable selling expense | 75% | ||||||||||
Reduction in Variable selling expense | 3.00 | D=C*75% | |||||||||
Revised Sell price per unit | 50.40 | E=A-B | |||||||||
Less: | |||||||||||
Direct Material | 25.00 | ||||||||||
Direct Labor | 10.00 | ||||||||||
Variable Manufacturing overhead | 3.00 | ||||||||||
Variable selling expense | 1.00 | F=C-D | |||||||||
Total Variable cost per unit | 39.00 | ||||||||||
Contribution per unit | 11.40 | ||||||||||
No. of Units | 7,000.00 | ||||||||||
Total Contribution | 79,800.00 | ||||||||||
Less: Cost of special machine | 14,000.00 | ||||||||||
Net income | 65,800.00 | ||||||||||
Conclusion: By selling the remaining 7,000 units Polasky Company can earn an additional profit $ 65,800. So they should accept this project. | |||||||||||
Note: Fixed manufacturing and selling expenses are sunk cost and they should not be considered for this order. | |||||||||||
Situation 2- Offer of US Army | |||||||||||
Fixed Fee per unit | 1.80 | ||||||||||
Fixed manufacturing overhead per unit | 7.00 | ||||||||||
Net received per unit | 8.80 | ||||||||||
No. of Units | 7,000.00 | 7000*8.8 | |||||||||
Total received | 61,600.00 | ||||||||||
Conclusion: By selling the remaining 7,000 units to US army Polasky Company can earn an additional profit $ 61,600. So they should accept this project. | |||||||||||
Note: Fixed manufacturing and selling expenses are sunk cost and they should not be considered so manufacturing overhead reimbursed by USA army is additional income for Polasky. | |||||||||||