Question

Polaski Company manufactures and sells a single product called a Ret. Operating at capacity, the company can produce and sell 42,000 Rets per year. Costs associated with this level of production and sales are given below:

  

	Unit			Total
Direct materials	$	15		$	630,000
Direct labor		8			336,000
Variable manufacturing overhead		3			126,000
Fixed manufacturing overhead		7			294,000
Variable selling expense		4			168,000
Fixed selling expense		6			252,000
Total cost	$	43		$	1,806,000

   

The Rets normally sell for $48 each. Fixed manufacturing overhead is constant at $294,000 per year within the range of 34,000 through 42,000 Rets per year.

  

Required:
1.	Assume that due to a recession, Polaski Company expects to sell only 34,000 Rets through regular channels next year. A large retail chain has offered to purchase 8,000 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 8,000 units. This machine would cost $16,000. Polaski Company has no assurance that the retail chain will purchase additional units in the future. Determine the impact on profits next year if this special order is accepted.

     

	Net profit by

2.

Refer to the original data. Assume again that Polaski Company expects to sell only 34,000 Rets through regular channels next year. The U.S. Army would like to make a one-time-only purchase of 8,000 Rets. The Army would pay a fixed fee of $1.40 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. If Polaski Company accepts the order, by how much will profits increase or decrease for the year?

     

	Net profit by

3.	Assume the same situation as that described in (2) above, except that the company expects to sell 42,000 Rets through regular channels next year. Thus, accepting the U.S. Army’s order would require giving up regular sales of 8,000 Rets. If the Army’s order is accepted, by how much will profits increase or decrease from what they would be if the 8,000 Rets were sold through regular channels?

     

	Net profit by

Answer 1

income statement as per variable costing for 34000 units

particular	per unit	amount	amount
sales	$48		$1632000
variable manufacturing cost
Direct material	$15	$510000
Direct labor	$8	$272000
Variable manufacturing overhead	$3	$102000
Variable manufacturing cost of goods sold	$26		$884000
Variable selling expense	$4	$136000
Total variable cost	$30		$1020000
Contribution (Sales - variable cost)			$612000
Fixed manufacturing overhead		$294000
Fixed selling expense		$252000
Profit (contribution - fixed costs)			$66000

Answer 1

Income for 8000 additional units sold with change in costs

particular	per unit	amount	amount
sales	$48	$384000
Less discount	$7.68	$61440
sales			$322560
variable manufacturing cost
Direct material	$15	$120000
Direct labor	$8	$64000
Variable manufacturing overhead	$3	$24000
Variable manufacturing cost of goods sold	$26		$208000
Variable selling expense (less 75%)	$1	$8000
Total variable cost	$30		$216000
additional cost incurred in deal		$16000
Contribution (Sales - variable cost - additional cost)			$90560

In the income statement for 8000 additional units sold, fixed costs are ignored because it is irrelevant to the deal as same fixed cost will incure even if the deal is not accepted. any increase in fixed cost would have been incorporated though.

Total profit after accepting the deal

particular	amount
contribution for 42000 units sold ($90560+ $612000)	$672560
less fixed manufacturing Overhead	$294000
fixed Selling overhead	$252000
Profit (with additional sales of 8000)	$126560

So the total profit will increase to $126560 iif additional 8000 goods are sold at a discount compared to $66000 for 34000 units sold. hence additional profit of $60560 will be earned if deal is accepted.

Answer 2

particular	per unit	amount	amount
sales
fixed fee	$1.40	11200
total variable cost	$26	208000
fixed cost	$13	104000
sales			$323200
variable manufacturing cost
Direct material	$15	$120000
Direct labor	$8	$64000
Variable manufacturing overhead	$3	$24000
Variable manufacturing cost of goods sold	$26		$208000
Variable selling expense	$0	$0
Total variable cost	$26		$208000
Contribution (Sales - variable cost - additional cost)			$115200
Fixed manufacturing overhead	$7	$56000
Fixed selling expense	$6	$48000
total fixed expense	$13		$104000
profit (contribution - fixed cost)	$1.4		$11200

calculation of profit after deal

particular	amount
contribution for 42000 units sold ()	$727200
less fixed manufacturing Overhead	$294000
fixed Selling overhead	$252000
Profit (with additional sales of 8000)	$181200

Hence additional profit of $115200 will be earned from the deal with army

answer 3

normal sale of 42000 units

particular	per unit	amount	amount
sales	$48		$2016000
variable manufacturing cost
Direct material	$15	$630000
Direct labor	$8	$336000
Variable manufacturing overhead	$3	$126000
Variable manufacturing cost of goods sold	$26		$1092000
Variable selling expense	$4	$168000
Total variable cost	$30		$1260000
Contribution (Sales - variable cost)			$756000
Fixed manufacturing overhead		$294000
Fixed selling expense		$252000
Profit (contribution - fixed costs)			$210000

so the profit if 42000 units are sold through normal channel is $210000 and profit if 34000 are sold through normal channel and 8000 are sold to army under conditions is $181200

hence the profit will decrease by $28800 if the deal is accepted