Question

Wesco Incorporated’s only product is a combination fertilizer/weedkiller called GrowNWeed. GrowNWeed is sold nationwide to retail nurseries and garden stores.

Zwinger Nursery plans to sell a similar fertilizer/weedkiller compound through its regional nursery chain under its own private label. Zwinger does not have manufacturing facilities of its own, so it has asked Wesco (and several other companies) to submit a bid for manufacturing and delivering a 27,000-pound order of the private brand compound to Zwinger. While the chemical composition of the Zwinger compound differs from that of GrowNWeed, the manufacturing processes are very similar.

The Zwinger compound would be produced in 1,000-pound lots. Each lot would require 36 direct labor-hours and the following chemicals:

Chemicals	Quantity in Pounds
AG-5	300
KL-2	290
CW-7	110
DF-6	300

The first three chemicals (AG-5, KL-2, and CW-7) are all used in the production of GrowNWeed. DF-6 was used in another compound that Wesco discontinued several months ago. The supply of DF-6 that Wesco had on hand when the other compound was discontinued was not discarded. Wesco could sell its supply of DF-6 at the prevailing market price less $0.09 per pound selling and handling expenses.

Wesco also has on hand a chemical called BH-3, which was manufactured for use in another product that is no longer produced. BH-3, which cannot be used in GrowNWeed, can be substituted for AG-5 on a one-for-one basis without affecting the quality of the Zwinger compound. The BH-3 in inventory has a salvage value of $550.

Inventory and cost data for the chemicals that can be used to produce the Zwinger compound are shown below:

Raw Material	Pounds in Inventory	Actual Price per Pound When Purchased		Current Market Price per Pound
AG-5	21,000	$	0.74	$	0.84
KL-2	5,900	$	0.42	$	0.47
CW-7	7,600	$	1.30	$	1.50
DF-6	6,600	$	0.41	$	0.52
BH-3	6,100	$	0.63	(Salvage)

The current direct labor wage rate is $10 per hour. The predetermined overhead rate is based on direct labor-hours (DLH). The predetermined overhead rate for the current year, based on a two-shift capacity with no overtime, is as follows:

Variable manufacturing overhead	$	4.10	per DLH
Fixed manufacturing overhead		8.30	per DLH
Combined predetermined overhead rate	$	12.40	per DLH

Wesco’s production manager reports that the present equipment and facilities are adequate to manufacture the Zwinger compound. Therefore, the order would have no effect on total fixed manufacturing overhead costs. However, Wesco is within 430 hours of its two-shift capacity this month. Any additional hours beyond the 430 hours must be done in overtime. If need be, the Zwinger compound could be produced on regular time by shifting a portion of GrowNWeed production to overtime. Wesco’s direct labor wage rate for overtime is $15 per hour. There is no allowance for any overtime premium in the predetermined overhead rate.

Required:

1. Wesco has decided to submit a bid for the 27,000 pound order of Zwinger’s new compound. The order must be delivered by the end of the current month. Zwinger has indicated that this is a one-time order that will not be repeated. Calculate the lowest price that Wesco could bid for the order and still exactly cover its incremental manufacturing costs.

2. Refer to the original data. Assume that Zwinger Nursery plans to place regular orders for 27,000-pound lots of the new compound. Wesco expects the demand for GrowNWeed to remain strong. Therefore, the recurring orders from Zwinger would put Wesco over its two-shift capacity. However, production could be scheduled so that 60% of each Zwinger order could be completed during regular hours. As another option, some GrowNWeed production could be shifted temporarily to overtime so that the Zwinger orders could be produced on regular time. Current market prices are the best available estimates of future market prices.

Wesco’s standard markup policy for new products is 40% of the full manufacturing cost, including fixed manufacturing overhead. Calculate the price that Wesco, Inc., would quote Zwinger Nursery for each 27,000 pound lot of the new compound, assuming that it is to be treated as a new product and this pricing policy is followed.

Answer 1

1	The lowest price Wesco could bid for the one time special order of 27000 pounds (27 lots ) without losing
	money is calculated as below;
	Direct Materials
	AG-5 300 pounds per lot * 27 lots =				8100 pounds
	Subsititute BH3 on a one for one basis to its total value of 6100 pounds.
	If BH-3 is not used in this order .it will be salvaged $550
	Therefore relevant cost							$550
	The remaining 2000 pounds would be AG-5 at a cost of $.84 per pound							$1,680
	KL-2 290 pounds per lot *27 Lots =7830*.47 per pound							$3,680.10
	CW-7 110 pound per lot *27 Lots =2970*1.5 per pound							$4,455
	DF-6 300 pound per lot *27 Lots =8100 pounds.
	Now 6600 pounds in inventory @ (.52-.09)for handling charges							$2,838
	and purchase the remaining 1500 pounds @ .52 per pound							$780
	Total Direct Material cost							$13,983
	Direct Labour
	36 DLH per lot *27 Lots =972 DLHs.Because only 430 hours can be
	scheduled during regular time this month,overtime would have to
	be used for the remaining 542 hours
	430 DLH * $10 per DLH							$4,300
	542 DLH *$15 per DLH							$8,130
	Total Direct Labour Cost							$12,430
	Overhead
	This special order will not increase the fixed overhead costs
	Therefore only the variable overhead is relevant.
	972 DLH *$4.10							$3,985.20
	Total Relevant Cost of this order							$30,398.30
2	Here we calculate the price for the recurring order of 27000 pounds(27 Lots)
	using the company rule of marking up its full manufacturing cost.This is the not
	practice to follow but it’s a common practice in business
	Direct Materials
	Because the initial order will exhaust the existing inventories for the chemicals
	BH-3 and DF-6 and new supplies have to be purchased so all the raw materials should
	be charged at the expected future cost which is the current market price.
	AG-5 (300 pounds in lots of 27 )				8100 *.84			$6,804
	KL-2 (290 Pounds in Lots of 27)				7830*.47			$3,680.10
	CW-7(110 pounds in Lots of 27)				2970*1.5			$4,455
	DF-6 (300 pounds in Lots of 27)				8100*.52			$4,212
	Total Direct Material Cost							$19,151
	Direct labour
	Direct Labour 60% ie (972 *.6) ie				583 DLHs of the production cab be
	done on regular time and the remaining 389 can be done using the overtime
	Regular :583 DLH @ $10 Per DLH							$5,890
	Overtime:389 DLH $$15 Per DLH							$5,835
	Total Direcl labour Cost							$11,725
	Overhead
	The full manufacturing cost includes both fixed and variable
	manufacturing overhead
	972 DLH @12.40 DLH							$12,052.80
	Full Manufacturing cost							$42,928.90
	Mark Up @ 40 % ie (42928.9 * .4)							$17,171.56
	Selling Price (Full Manufacturing Cost Plus Mark Up)							$60,100.46