Question

Rippey Corporation manufactures a single product with the following unit costs for 5,000 units:

Direct materials	$ 60
Direct labor	30
Factory overhead (40% variable)	90
Selling expenses (60% variable)	30
Administrative expenses (20% variable)	15
Total per unit	$225

Recently, a company approached Rippey Corporation about buying 1,000 units for $225. Currently, the models are sold to dealers for $412.50. Rippey's capacity is sufficient to produce the extra 1,000 units. No additional selling expenses would be incurred on the special order.

Required:

A.	What is the profit earned by Rippey Corporation on the original 5,000 units?
B.	Should Rippey accept the special order if its goal is to maximize short-run profits? How much will income be affected?
C.	Determine the minimum price Rippey would want to receive in order to increase profits by $7,500 on the special order.
D.	When making a special-order decision, what qualitative aspects of the decision should Rippey Corporation consider?

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Answer 1

Solution A:

Variable cost per unit = $60 + $30 + ($90*40%) + ($30*60%) + ($15*20%) = $147 per unit

Fixed cost per unit = $225 - $147 = $78 per unit

Total fixed costs = $78 * 5000 = $390,000

Contribution margin per unit = $412.50 - $147 = $265.50

Profit earned by Rippey Corporation on the original 5,000 units = Contribution margin - Fixed costs

= (5000*$265.50) - $390,000 = $937,500

Solution B:

Unit price for special order = $225

Variable cost per unit to be incurred on special order = Variable cost per unit of regular order - Variable selling expenses per unit

= $147 - ($30*60%) = $129 per unit

Profit on special order = ($225 - $129) * 1000 = $96,000

Rippey should accept the special order as it will increase net income of the company by $96,000.

Solution C:

If profit on special order to be increase by $7,500 then required profit on special order = $96,000 + $7,500 = $103,500

Minum price Rippy would want to received = (1000*$129 + $103,500) / 1000 = $232.50 per unit.

Solution D:

The following qualitative aspect should be considered by Rippy when making special order decision.

1. Credit worthiness of customer and credit terms offerred.

2. Whether accepting special order price may impact regular sale due to lower price on special order.

3. Accepting special order at lower price may result in customer dissatisfaction for regula customers.