Question

Polaski Company manufactures and sells a single product called a Ret. Operating at capacity, the company can produce and sell 34,000 Rets per year. Costs associated with this level of production and sales are given below:

	Unit				Total
Direct materials	$	20			$	680,000
Direct labor		8				272,000
Variable manufacturing overhead		3				102,000
Fixed manufacturing overhead		5				170,000
Variable selling expense		2				68,000
Fixed selling expense		6				204,000
Total cost	$	44			$	1,496,000

The Rets normally sell for $49 each. Fixed manufacturing overhead is $170,000 per year within the range of 25,000 through 34,000 Rets per year.

Required:

1. Assume that due to a recession, Polaski Company expects to sell only 25,000 Rets through regular channels next year. A large retail chain has offered to purchase 9,000 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 9,000 units. This machine would cost $18,000. 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 25,000 Rets through regular channels next year. The U.S. Army would like to make a one-time-only purchase of 9,000 Rets. The Army would pay a fixed fee of $1.60 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 34,000 Rets through regular channels next year. Thus, accepting the U.S. Army’s order would require giving up regular sales of 9,000 Rets. Given this new information, what is the financial advantage (disadvantage) of accepting the U.S. Army's special order?

Answer 1

1) If Polaski Company accepts the order of large reatin chain, following would it be sales revenue and cost:

	Retail chain	Normal Sales	Total
Sales Price*	41.16	49
No of units	9000	25000	34000
Sales	370440	1225000	1595440
Direct Materials (@20)	180000	500000	680000
Direct Labour (@8)	72000	200000	272000
Variable Manufactuing OH (@3)	27000	75000	102000
Variable Selling expenses#	4500	50000	54500
Fixed Manufacturing OH		170000	170000
Fixed Selling Expenses		204000	204000
New Machine Cost	18000		18000
Total Cost	301500	1199000	1500500
Net Profit	68940	26000	94940

*Sale Price for Retail Chain = 49 - 16% of 49

# Variable Selling expenses for retail chain is 2 - 75% of 2 = 0.5. However for remaining 25000 units it will incur $2 per unit.

Polaski Company should accept the order despite if the retail chain does not purchase additional units in the future, since installing the machine is giving a financial advantage of $68,940.

2) The following would be the price for the Army:

Direct Materials	20
Direct Labor	8
Variable Manufacturing OH	3
Fixed Manufacturing OH	5
Fixed Fee	1.6
Final Selling price	37.6

Both the selling expenses (variable & Fixed) will not be considered for the sales made to army.

Total revenue earned from sales to army and normal sales

	Army	Normal Sales	Total
Sales Price	37.6	49
No of units	9000	25000	34000
Sales	338400	1225000	1563400
Direct Materials	180000	500000	680000
Direct Labour	72000	200000	272000
Variable Manufactuing OH	27000	75000	102000
Variable Selling expenses		50000	50000
Fixed Manufacturing OH	45000	125000	170000
Fixed Selling Expenses		204000	204000
Total Cost	324000	1154000	1500500
Net Profit	14400	71000	85400

The financial advantage of sales to army would be $14400.

3) If Polaski Company sales all 34000 units of Rets:

Sales (49*34000)	1666000
Direct Materials	680000
Direct Labor	272000
Variable Manufacturing OH	102000
Variable Selling Expenses	68000
Fixed Manufacturing OH	170000
Fixed Selling Expenses	204000
Total Cost	1496000
Profit	170000

The Financial disadvantage of accepting the army offer would be $170,000 - $85,400 = $84,600. Hence company should not accept the offer, if it expects to sell all 340000 units by itself.