Question

1.- Explain and compare Two (2) examples of a special order (Accepting a special order and Rejecting a special order) for a sample business decision for a company (100 to 200 words)

2.-: Explain Three (3) benefits when using incremental analysis for making decisions.

Answer 1

1.Special order decisions involve situations in which management must decide whether to accept unusual customer orders. These orders typically require special processing or involve a request for a low price.

ACCEPT OR REJECT A SPECIAL ORDER

• When the company is operating at less than its maximum capacity and the company has enough capacity to produce and fill the special order, the order should be accepted if the additional sales exceed the additional variable costs.

When the company has no excess capacity, the cost to be considered must include the lost contribution margin from sacrificing regular sales to be able to fill up the special order

EXAMPLE-WITH EXCESS CAPACITY

In a month ABC co normaly produces and sells 8000 units of its product for $20. Variable manufacturing cost per unit is $ 10. Total fixed manufacturing cost (upto the maximum capacity of 10000 unit) are $38000. Variable operating cost is $1 per unit and Fixed operating cost total is $10000.

A customer placed a special order for 1500 units for $15 each.The customer is willing to shoulder the delivery cost:hence the business will not inccur additional variable operating cost .should the company accept or reject the special order?

Solution:

Yes the company accept the offer.The selling price of $15 exceeds the variable manufacturing cost of $10.This will result in additional income of $7500(1500*5)

EXAMPLE-WITHOUT EXCESS CAPACITY

Using the same information inthe above scenario but this time assume that the company normaly manufacture and sells 9000 units instead of 8000 units

Solution:

Since the company has excess capacity of 1000 units only it is not enough to fill up the special order of 1500 units. Hence a portion of the regular sales (500units) must be sacrificed to fill up the entire special order.The lost contribution margin should be considered. contribution margin is equal to sales (at $20) minus variable costs ($10 variable manufacturing plus $1 variable operating)

Lost contirbution margin= ($20-$11)*500 units=$4500

Lost contribution margin per unit=$4500/1500 units= $3

In this case also the company accept the order since the selling price ($15) is higher than the cost ($13=$10+$3).This will result in additional income of $ 3000(1500*$2)

2. Benefits

• Increment analysis is the simplest approach to solving complex business decisions
• It uses cost behaviour concept to analyze how each cost will affect the different alternatives of furute income
• Increment analysis is useful for business strategy including the decision to self produce or outsource a function