Question

Becker Company produces and sells pens and markers. The following are the Becker Company’s unit costs of manufacturing and marketing one of its pens, a high-style model, at an output level of 20,000 per month. The selling price of the pen is $6.

Manufacturing Cost
Direct Materials	$1.00
Direct manufacturing labor	$1.20
VOH cost	$0.80
FOH cost	$0.50
Marketing Costs
Variable	$1.50
Fixed	$0.90

The following independent situations and opportunities have arisen during the month. You have been asked to evaluate each. Make a recommendation regarding each opportunity. Write your recommendation to your supervisor, providing supporting calculations along with appropriate written short answer or executive memo, as appropriate

1. The company wants to enter a foreign market in which price competition is keen. Becker want to fulfill a one time special order request for 10,000 pens. The shipping costs for the order will amount to $0.75 per unit, and the fixed costs of obtaining the contract will be $4,000. The company incurs no variable marketing costs other than shipping costs. Domestic business will be unaffected. What is the minimum selling price for this special order?

2. A proposal is received from an outside supplier who offers to make and ship the high-style pens directly to Becker’s customers – as sales orders are forwarded from Becker’s sales staff. Becker’s fixed marketing costs will be unaffected, but its variable marketing costs will be slashed by 20%. A portion of Becker’s plant will be idle, but its fixed manufacturing overhead will continue at 50% of present levels. What is the minimum price Becker would be willing to pay the supplier, without changing current operating income.

3. Assume the same information about the external supplier above, except Becker has identified another company who is willing to rent the idle factory space. If the supplier’s lowest acceptable price is $5, what is the minimum price should Becker charge the renter?

Answer 1

Solution 1:

As per the question, domestic operation will not be affected which means that Becker company has spare capacity to deliver the special order. Hence no existing fixed overheads will be charged to new order.

Variable production cost per pen = Direct Material + Direct Labor + VOH cost

= $1+ $1.2 + $0.8

= $3

Variable Selling cost(Shipping cost for the order) = $0.75

Total Variable cost per pen = $3.75

Total Variable cost for 10,000 pens = $37,500

Fixed cost for Obtaining the contract = $4,000

Total cost for the contract = $41,500

Hence Minimum selling price of $4.15 per pen for an order of 10,000 pens.

Solution 2:

Let’s compute the current Operating Income:

Sales = 20,000 * $6 = $120,000

Variable production cost = 20,000* $3 = $60,000

FOH cost = $0.5*20,000 = $10,000

Variable Marketing cost = 20,000* $1.5 = $30,000

Fixed Marketing cost = 20,000* $0.9 = $18,000

Existing Net Operating Income = $120,000 - $60,000 - $10,000 - $30,000 - $18,000

= $2,000

As per Proposal:

Variable Marketing cost to be incurred= $30,000 * (100% - 20%) = $24,000

FOH cost to be incurred = $10,000 * (100% - 50%) = $5,000

Total cost incurred = $29,000

To maintain the current net operating income of $2,000; company can pay an extra of $89,000 ($118,000 - $29,000) as cost. If the company has to pay $89,000 as cost to supplier, it will be $4.45 per pen.

Solution 3:

If the Supplier will charge $5 per pen and Becker wishes to maintain the same operating income, it will have to ask for rental of 20,000* ($5 - $4.45) = $11,000