Question

Delta Company produces a single product. The cost of producing and selling a single unit of this product at the company’s normal activity level of 97,200 units per year is:

Direct materials	$	1.50
Direct labor	$	3.00
Variable manufacturing overhead	$	1.00
Fixed manufacturing overhead	$	4.15
Variable selling and administrative expenses	$	1.60
Fixed selling and administrative expenses	$	2.00
The normal selling price is $23 per unit. The company’s capacity is 132,000 units per year. An order has been received from a mail-order house for 2,900 units at a special price of $20.00 per unit. This order would not affect regular sales. Required: 1. If the order is accepted, by how much will annual profits be increased or decreased? (The order will not change the company’s total fixed costs.) Annual profits would by 2. Assume the company has 500 units of this product left over from last year that are inferior to the current model. The units must be sold through regular channels at reduced prices. What unit cost is relevant for establishing a minimum selling price for these units? (Round your answer to 2 decimal places.) Relevant cost per unit

Answer 1

Solution for Part-1 Selling price for special order = $20

Total variable costs of one unit = $1.50 + $3 + $1+ $1.60 = $7.10

Contribution per unit from special order = Selling price per unit - Total variable costs per unit = $20 - $7.10 = $12.90

Number of units to be sold on special order = 2900

Thus,Total increase in the company's contribution margin = $12.90 x 2900= $37410

Since the company has excess capacity fixed costs will not change if the special order is accepted. Therefore, the increase in annual profits if the order is accepted would be equal to the increase in contribution margin.

Hence, Annual profits would increase by $37,410

Solution for 2 Part

Only the variable selling and administrative costs would be relevant to sell the inferior units because these units have already been produced and the manufacturing costs are now sunk costs.