Question

Clean-it Company produces cleaning kits for shotguns. The production capacity available will enable the firm to produce 500,000 kits annually. A projected income statement for next year shows

                            Sales (460,000 kits)                                 $4,600,000
                            Costs of goods sold                                    2,960,000
                            Gross profit                                                1,640,000
                            Selling and administrative expenses          1,250,000
                            Net income                                                $ 390,000  

Fixed manufacturing overhead costs included in the cost of goods sold are $ 1,120,000. A 10% sales commission is paid to sales representatives for each kit sold. The purchasing department of a large discount chain has offered to purchase 30,000 kits at $6 each. The Clean-it Company sales manager’s initial response is to refuse the offer because he concludes that the $6 price is below the firm’s average cost 2,960,000/460,000. The sales commission would not be paid on the special order.

Required:
A. Should the special offer be accepted? What would be the impact on net income?
B. Assume that the offer was for 50,000 kits. Should it be accepted? Show your               
    calculations.
C. Ignore part B. What is the lowest price the firm could accept if it wants to earn annual
     net income of $480,000?

       

Answer 1